Chartered Accountant and Market Analyst
I have researched three parameters to understand why share prices can only go up over time
Compounded Annual Growth Rates % ( CAGR%)
Period EPS Nifty 50 stocks MarketCap of Nifty 50 MarketCap of NSE listed shares
2003-08 * 22 39 55
2008-18 * 5 8 11
2013-18 * 3 11 17
2003-18 * 11 17 24
The above percentages have been calculated personally by me using historical data.
* 2003-08 ( Period of earnings growth ), 2008-18 ( poor growth), 2013-18 ( last 5 years of poor growth) and 2003-18 (consolidated period of both good and poor earnings growth)
Observation from the above data is :–
During the various periods in the chart above we can see that MarketCap of Nifty 50 stocks has given higher returns in percentage terms ( CAGR%) compared to the Earnings ( EPS of Nifty 50 ) and returns from the “MarketCap of all Nifty listed stocks” is even higher. WHY ? This is against the principle, that in Long Term, markets prices keep pace with earnings i.e. over long term prices are worth the earnings of the company.
Reasons supporting the above data
- GDP and Per Capita Income have continued to rise, the Indian case. Major part of the country’s consumption is absorbed by large companies which are listed while the SME ( Small and Medium Sector ) does not have the competitive advantage to run with low margins. Therefore while earnings are low, sales volumes continue to rise making companies more valuable.
- MarketCap of any country is generally equal to its GDP. So if GDP rises , so does MarketCap.
- Overtime, companies continue to invest in technological up gradation, induction of better IT products, investments in their infrastructure, , builds up more experience and goodwill with time which all adds up to the valuation of the company, even without support of growth in earnings.
- Good companies also build on strengths to encash future opportunities of growth. In other words these create visibility of growth in earnings and cash flows with longevity.
- With rising inflation and above points, the replacement value of the Companies operations is rising with time.
- So, share prices rise because of the company’s rising worth and also with the rise in earnings.
- This data will prove correct particularly for well managed companies that are transparent with minority shareholders, have moats to be able to maintain and improve profit margins for a long period of time.
- It is clear from the above data that share prices outperform growth in earnings.
- We have got a return of 11% and 17 % in ‘Nifty stocks’ and ‘All Nifty stocks’ respectively as in the chart above, which is more that the Fixed Deposit return that the Bank can offer us. This is for the period 2013 to 2018 withe growth in earnings as low as 3%. During periods of earning expansions the growth prices is even more attractive.
- The best way to get this growth is to stay invested in large well managed companies that are ready to encash the future growth opportunity of the economy or invest in a Nifty ETF which truly reflects the movements of Nifty 50 stocks. When we invest in a company we are faced two risks, that is Corporate and Market Risk. Nifty 50 ETF has added advantage of no Corporate Risk but just Market Risk.
- It also goes to conclude that good companies will always quote at very Price Earnings Ratio ( PE ) which optically may look expensively priced but in reality are reasonably priced.
- Therefore it is safe to invest in stock markets while earning more than the interest income from a bank deposit.
- We must always remain invested. It is ” Time in the market and Not timing the market ” otherwise this data will not be applicable. Don’t time the entry and exit for investments.