Stock markets and economies do not always go together. Take the case with India right now. The stock markets have done reasonably well this year. The economy clearly hasn’t with economic growth slowing down to around 5.5%.
As Russell Napier a consultant with CLSA and a financial historian of repute puts it “I maintain a very positive long term view on India and the Indian economy and how it develops. But, and it’s a big but, that financial history tells you that economic growth and return from equities are not linked at all.” Napier is also the author of the bestselling Anatomy of the Bear – Lessons from Wall Street’s Four Great Bottoms.
The most important thing is to buy equities when they are cheap because when they are cheap that’s when you make good return, feels Napier.
So how cheap are Indian stocks? “Indian equities haven’t been cheap for a very very long period. And the best measure of cheapness that I look at is the cyclically adjusted price to earnings (PE) ratio because it has been a good guide in America for future returns. In India the cyclically adjusted PE is now at 24. If you look at the history of America that is right at the top end of the range. And suggests that we are going to have pretty poor lowish returns from India over a prolonged period of time,” says Napier. Cyclically adjusted PE is calculated by using ten year rolling average earnings. India is now on 24 times cyclically adjusted PE.
This number has to fall if Indian stocks are to become attractive investment propositions. “The volatility of the market though is great, and I think and I hope we will get a chance to buy Indian equities cheaper, and get them cheaper sometime soon,” feels Napier. “Certainly if they ever get below 15 times cyclically adjusted PE you should be looking to buy some of them. And there is every reason to think that they will go lower than that, and then you should be buying a lot of them,” he adds.
Napier is looking at a global deflation shock and the stock markets falling all over the world. As he says “I see all the markets global equity markets coming down to the extent of this global shock.”
Despite the fact Napier feels that Indian stocks are expensive he would rather buy Indian stocks than Chinese. “Chinese are stocks probably at very viable sort of valuation levels. But I wouldn’t buy any of them because I don’t consider them to be corporations. I don’t consider the management to wake up in the morning and seek to push up the return on capital to the benefit of shareholders. And therefore those equities are cheap I don’t fundamentally want to buy,” explains Napier.
And how is India different? “Not every Indian company as you are also aware is going to do the best for all its shareholders. But because Indian companies come from the private sector so it is more likely you are going to find companies in India who work to benefit there shareholders and not just the small family unit in the company,” says Napier. “Hence when it comes to buying stocks cheaply I want to do that in India and not in China. But in India at the minute they remain still very expensive,” he concludes.
The article originally appeared in the Daily News and Analysis (DNA) on October 15, 2012. http://www.dnaindia.com/money/report_russell-napier-sees-all-equity-markets-falling_1752478
Vivek Kaul is a writer. He can be reached at [email protected]