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If the market drops 10% or so, these stocks will bleed the most

NEW DELHI: Amid anticipation of the Nifty touching the magical mark of 10,000, one set of voices on Dalal Street are talking of an up to 10 per cent correction in the near term, which may last up to 3-4 months.

While Nifty’s closure above the 9,900 mark for the first time on Monday raised hope that it may be nearing the five-figure mark, the nearly 100-point fall in early trade on Tuesday gave more credence to the doomsayers’ theory of a swing in the reverse direction.

As of Monday’s close, Nifty’s price-to-earnings (P/E) ratio was ruling at over 25 against its historical average of 20.

Market experts attribute the relentless rally to a glut in liquidity, which is driving the market even though there is no sign of recovery in earnings.

“If you are buying into stocks and companies where there is only hope of earnings recovery, there is bound to be loss of capital,” Manish Sonthalia, Head of Equities, PMS, Motilal Oswal Mutual Fund, said in an interview with ETNow.

“We are telling our investors that a cut or drop in prices to the extent of 5 to 10 per cent can happen anytime, and this can happen to the market as a whole. One should be prepared for this sort of a thing,” Sonthalia said.
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The stocks rally seems to be driven more by hopes than facts and figures. From expectations of robust monsoon to likely improvement in the economy following GST implementation have kept sentiments upbeat.

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Foreign investors have pumped nearly Rs 11,000 crore into the market in the first two weeks of July, enthused by the trouble-free rollout of GST and a rebound seen in the Indian economy.

In the five months from February through June, net FII inflow stood at over Rs 1.62 lakh crore. Prior to that, investors had pulled out over Rs 3,496 crore from debt market in January.

Chartists also expect a major correction in the coming days, which they say may last up to a quarter.

Mazhar Mohammad, Chief Strategist – Technical Research & Trading Advisory, Chartviewindia.in said, “A negative advance-decline ratio even on days when the market has gain has been a cause of concern, as this ratio has repeatedly turned negative at lifetime highs, suggesting pressure on the broader markets whereas Nifty appears to be concealing the real picture with positive closes.”

Even technical parameters on lower time frame charts were turning negative. “It will be prudent on the part of traders and investors to take some money off the table as even in terms of Elliot Wave theory, the rally from the lows of 9,448 is looking like the last leg and we may see a bigger correction,” Mazhar said.

He projected a 7-10 per cent kind of correction, lasting up to three months.

As of Monday, more than 200 stocks in BSE500 index were trading above their industry PE ratios. The PE ratio is the most common measure to compare how cheap or expensive a stock is.

In the banking space, shares of Kotak Mahindra BankBSE 0.56 %, Federal BankBSE 2.21 %, HDFC BankBSE 0.13 %, IndusInd BankBSE 0.25 %, Axis BankBSE 0.15 %, RBL Bank and DCB Bank are all trading above the industry P/E ratio of 26.55.

Among cement stocks, ACCBSE 0.33 %, Century TextilesBSE 0.42 %, Shree CementBSE 1.23 %, JK Lakshmi CementBSE 0.88 %, Prism CementBSE 0.41 % and Dalmia Bharat were ruling above industry PE ratio.

In the construction space, NCCBSE -0.33 %, NBCCBSE 0.29 %, Indiabulls Real EstateBSE 1.07 %, Delta CorpBSE 0.73 %, Mahindra Life, OmaxeBSE -1.02 %, DLF, JKumar, Sobha, Prestige Estate and Oberoi RealtyBSE 1.35 % looked overvalued in terms of PE values.

Market veterans say it would be wise for investors to avoid shares that are trading at a significant premium to their historical P/E trading range.

Stocks like HDFC, CanFin Homes, Bajaj HoldingsBSE 0.43 %, Max Financial, IDFC, Equitas Holdings, SREI Infra and Power Finance CorporationBSE 0.41 % look expensive from that perspective.

With price-to-earnings ratio of 34,483, Infibeam Incorporation was among most expensive stock against an industry P/E of 23.51. It was followed by Adani Transmission (PE of 3,576), Swan EnergyBSE -0.56 % (2,017) and Bajaj FinservBSE 0.72 % (1,001).

“This pocket of overvaluation is stock-specific rather than sector specific. Some of the NBFCs and consumer-staple companies have run up ahead of fundamentals and the hope of exponential growth is likely to be met with some disappointment. Hence, corrections can come,” Nilesh Shah, Managing Director, Kotak MahindraBSE 0.56 % Asset Management told ET in an interview.

Sometimes a higher P/E is associated with a high growth business, though this is not a necessary condition. Investors need to objectively assess whether the P/E ratios are justified in the light of their growth potential. In case the potential profit growth rate of a company is strong enough to justify a high P/E, then one may consider investing in such stocks.

Mayuresh Joshi, Fund Manager, Angel Broking said the metal sector was looking expensive at this juncture. “It is stock pickers market now,” he said.

In the metals and mining space, shares of Hindustan CopperBSE 0.69 %, Hindustan ZincBSE 0.02 %, NMDCBSE 0.33 %, GMDC and MOILBSE 1.10 % were trading above their industry P/E on Monday.

Equity indices BSE Sensex and NSE Nifty slipped nearly 1 per cent in early trade on Tuesday following brisk selling on the FMCG counter, mainly ITC.