State of Market: Is the Greed vs Fear Indicator blinking red?

Indian equities should underperform emerging markets in CY22 after stellar outperformance in CY21 (24% return) as outperformance looks unsustainable based on earnings growth and RoE differential. Historically, the peaks of outperformance of Indian equities with regard to EMs measured on a 12-month rolling basis were often followed by underperformance w.r.t EMs in the following 12 months. That seems to be playing out as well. While the RoE differential of Indian equities has turned positive since Dec-21, it doesn’t justify the 104% premium of Indian equities w.r.t. EMs. India doesn’t stand out in EMs based on earnings growth either.

Greed Vs Fear Indicator turns away from greed
This underperformance expectation is also apparent in investor sentiment. The Greed vs Fear Indicator measured by Nifty100 value participation (Nifty100 turnover as a percentage of total turnover) has turned from greed, as mid-caps and small-caps underperformed and investors flocked to safety with Nifty100 value participation at the highest level in 11 months. If there is greed in the market, the market activity would be substantial outside Nifty100 stocks, which was prevalent in CY21. Additionally, retail participation is at the lowest level in 24 months since March 2020. Small-caps and mid-caps are set to underperform large-caps after their significant outperformance in CY21.

Nifty100 value participation spikes as investors shift to focus on large caps
Amongst large-caps, heavyweights are likely to outperform smaller companies. Every index constituent has 2% weight in Nifty equal weight, so if heavyweights (Nifty weight > 3%) are running the Nifty index, Nifty equal-weight index would lag Nifty index and vice-versa. Historically, the outperformance peaks often suggest a trend change with Nifty equal-weight index likely to underperform the Nifty index. The outperformance of Nifty equal-weight index w.r.t Nifty seems to have peaked. This implies that smaller companies in Nifty are set to underperform the heavyweights. The expected financial performance also points in a similar direction with Nifty heavyweights likely to do better than smaller weights as evident in sales/EBITDA/PAT growth for FY23-24.

Small weights had better financial performance in FY21-22 but heavyweights are likely to have a better FY23-24.

ET CONTRIBUTORS

But, this should not be concerning from a medium-term perspective as return expectations are reasonable with Nifty likely to deliver 9.7% CAGR over the next 3 years: Earning yield-bond yield gap (EYBY Gap) is one of the better predictors of market returns. EYBY Gap is TTM earnings yield (1/PE) – 10-year bond yield. This scores over price multiples in future returns prediction, with explanation power (R^2) over 63 for a 3-year holding period.

At the current TTM earnings multiple of 24x and the 10-year yield at 6.8% (EYBY gap of -2.51), Nifty is likely to deliver 9.7% CAGR return over the next 3 years, suggesting ~23k levels by April ’25. From a near-term perspective, if G-sec yield crosses 7.5% with a tepid 4QFY22 earnings season, Nifty can touch ~14600. However, if Nifty earnings meet expectations in 4QFY22, Nifty can touch ~15,100 in 1HFY22 – downside in both cases. So, while the near-term can bring correction, return expectations are still reasonable from a long-term perspective and corrections should be viewed as an opportunity to build a portfolio.

(The author, Nitin Bhasin, is Co-Head and Head of Research, Ambit Institutional Equities. Views are his own)