Earnings prop up fundamentals

Over the past two years, Sensex earnings have grown about 29% per annum.

Fundamentally, stock markets are on a firm footing with corporate earnings growth expected to be in the range of 20 per cent in fiscal 2005-06.

Over the past two years, Sensex earnings (earnings of all Sensex companies combined in accordance with their weights in the index) have grown about 29 per cent per annum. This year could be a bit lower, yet good enough to justify current equity prices.

According to Mihir Vora, head of equities at ABN Amro mutual fund, markets as a whole still looks attractive. "There are specific stocks and sectors which appear overvalued now, but they will be counter balanced by others which are still undervalued," says Vora.

As per consensus among research houses, sectors which are likely to see the maximum growth (EPS) in FY06 is telecom at 77 per cent.

Technology and metals comes in next, both of which are expected to grow by more than 30 per cent, followed by power and engineering companies at 29 per cent.

Among those expected to post least growth include media (1 per cent), banking (8 per cent) and chemicals at 9 per cent.

As for the Sensex, the index valuations for fiscal 2004-05 were actually cheaper at 15 times compared to 19 times for FY04. And according to consensus estimates, the valuations are going to be still cheaper going forward. The estimates for Sensex valuations for FY06 are at 13-14 times.

"Considering that the Sensex valuations are going forward, it cannot be called overvalued. Especially since corporate earnings are expected to grow by 12-16 per cent in FY06," notes Vora.

Adds Bobby Surendranath, Vice President, Investments, Standard Chartered Mutual Fund, "Markets are reasonable at current levels. Given the current valuations, stocks are not expensive."

Based on trailing earnings too the Sensex is actually cheaper than last year, reflecting the relatively lower earnings growth expected this fiscal.

The constituents of the Sensex, i.e. the stocks that make up the Sensex themselves, are thought to be getting cheaper as far as valuations for FY06 are concerned. Consider Infosys. The technology bellwether is currently trading at a trailing 12-month P/E of 34 times. The consensus estimates for FY06 stands at 23 times.

Similarly, for TCS the stock is presently going at a P/E of 27 times, while the outlook for FY06 is 20 times. The valuations for the stocks which are expected to make the biggest contribution to Sensex earnings, ONGC and Reliance Industries are also below their FY05 levels.

Thus, the overall market health, heavily dependent on the corporate earnings growth, is thus bound to be good, goes the reasoning.