Return on Equity ( RoE) of the Nifty50 index is rising above the 15% mark after a decade and brokerage ICICI Securities expects it to expand to 17 per cent by the fiscal year 2025, thereby clearly entering the value-creation zone, driven by an improving demand environment for capital-intensive and cyclical stocks such as auto, capital goods & infrastructure, utilities, telecom, commodities and financials.
“The RoE trajectory provides a sense of ‘déjà vu’ of what happened in the pre-global financial crisis era between 2003-2007 when stocks within capital- intensive and cyclical sectors like L&T, BHEL, Bharti, NTPC, Hindalco, M&M, ACC, Reliance and DLF transitioned from sub-14% level RoE to value- creation zone of RoE >15%. Most of the aforementioned stocks further touched the high quality zone of RoE >25% at the peak of the investment and credit cycle,” said Vinod Karki of ICICI Securities.
As capital-intensive and cyclical sectors expanded their RoEs above the 20% range in pre-GFC era, their price-to-book ratio was also boosted and by the peak of the profit cycle, and the P/B ratio expanded well above 5x, noted the brokerage.
Capital-intensive stocks saw massive re-rating in P/B between 2003 and 2007
Capacity utilisation improved to 76% in the economy, as per RBI’s OBICUS survey, and high-frequency indicators like PMI, GST collections, infra orders, and real estate construction indicate demand overall remains robust driven by the investment side of the economy.
” P/B ratio of NIFTY50 index is at the long-term average mark of 3x and a rising RoE is likely to boost it driven by the aforementioned stocks. A similar trajectory was observed between 2002-07 when cyclical recovery in the economy driven by the capex cycle boosted RoE to >25% and P/B >5x. Currently, as capacity utilisation is moving above the 76% mark, we believe the benefits of operating leverage have started to creep in, although corporate re-leveraging cycle is yet to begin. High-frequency indicators corroborate rising utilisation levels,” said Niraj Karnani of ICICI Securities.
First Published: Sep 11 2023 | 11:30 AM IST