Market at compelling Valuation–Good Opportunity to buy quality in staggered way (Based on Mean Reversion Theory) Dividend Yield, Price/Sales and EV/Sales ratios are more consistent to evaluate the valuations for equity markets. Generally the most popular tool-PE ratio is used to gauge the top and bottom of market. Contrary to this, we found that the above mentioned ratios have low standard deviation vis a vis PE or other multiples and hence are better for overall market valuation. Even though the dividend yield is a good indicator, the changing nature of the dividend payout makes it difficult to use this tool consistently to evaluate market valuations. The other ratios; Price/Sales ratio and EV /Sales offer better results because of a higher predictability of revenue. Among the last two ratios, EV/Sales is more logical hence we focus more on EV/Sales to judge market valuations. Markets discount the earning 3-6 month ahead of the results being declared. In FY 2009, market bottomed out in March 2009 discounting the June/Sept quarter numbers. At current prices CY 13e EV/Sales are quoting at 1.61x [which coincides with the CY 2009 bottom EV/sales valuations]. We are quoting below 1SD EV/Sales of last 13 years. It clearly indicates that we are near bottom hence better entry for long term investors.
Nifty 50 Companies - Banks and Financial Services are excluded in EV/Sales calculation
What is Mean Reversion Theory
Mean reversion is a theory about measurable values, such as interest rates and stock prices. It assumes that if the value fluctuates below and above the average, it will -- over time -- revert back to the average. Applied to the Stock Market
As applied to the stock market, mean reversion is an investment-purchasing strategy that assumes a stock’s measurable value, such as price or price-to-earnings ratio, EV/EBIDTA, EV/Sales, Dividend Yield or P/BV will return to the average. Basically, it...