Stock markets look expensive on most traditional measures of valuation, trading at a significant premium to long-term averages. The wider market of small caps seems more overvalued. This comes even as significant risks lurk — rising inflation, earlier than expected rise in US interest rates, and a pandemic that is keeping a step ahead. Can the market rise over this wall of worry or will any of these events trigger a sharp sell-off?
However, the earnings to bond yield ratio is below its long-term average on a trailing basis which is supporting current market valuations as bond yields have come off at around 6%. Any pickup in inflation may lead to a spike in bond yields. Going forward, the broader market performance is likely to be in line with the global trends till evidence of medium-term acceleration in earnings starts showing, according to analysts.
MULTIPLE RISKS
Normalising US interest rates and Fed tapering could cap inflow
There could even be outflows if rates in the US rise
India’s own interest rates may rise faster as inflation hardens
Higher bond yields and stronger dollars will dampen the markets
A third Covid wave
COUNTERPOINTS
Many segments trading at normal valuations
Earnings are below normal; as they rise, overvaluation will correct
