Bullish on capital goods stocks? 3 reasons to be cautious
Nifty50 and Sensex by considerable margins.
This exuberant growth may spark excitement, but beneath the surface lies a market that might be getting a bit too frothy for comfort. Overconfident investors, perhaps overlooking essential market fundamentals, have contributed to pushing the prices of securities well beyond their intrinsic values. In this article, we will explore three reasons why caution should be taken by investors eyeing the capital goods sector.
Rich Valuations
As of January 24, 2024, the S&P BSE Capital Goods index had a PE ratio of 48.31 (Source: Trendlyne). Many companies within the capital goods sector are showing PE ratios that go well beyond their 10-year average. This indicates the high valuations of some companies compared to the overall index. Companies having excessively high PE ratios have little margin of safety. There is a high probability of a fall in prices if the expected growth doesn’t materialize.
Excessive Speculation
A key metric that can be used for gauging market perception is the ratio of turnover to market capitalization. This ratio is calculated by dividing the total turnover of a stock over a specific period by its market capitalization. So if the turnover of a company’s shares is greater than its market cap then it means that people are not holding on to the company for too long. They are churning the stock more often. The stock is in the hands of speculators rather than investors.
Several companies in the S&P BSE Capital Goods index have high turnover compared to their market cap. This indicates the entire sector is in the grip of speculators rather than investors at the moment.
Reversion to the Mean
With a staggering surge of 66%, the S&P BSE Capital Goods Index has
