For the last one and half year since the Narendra Modi government took charge there was complete over exuberance on the economic front and hence in shares. Mid cap stocks went berserk and their price to earnings multiples surpassed those of large caps.

Pharma shares had astronomical price to earnings multiple, while FMCG shares were ridiculously high. Any company that showed slight growth in profits saw its share price go ballistic.

Indices

The government's intentions seem to be true and honest, but, investors tend to get greedy at times. Let's see why the markets had to fall and whether the carnage of Monday was realistic, though many attribute it to China as the sole reason, the real fact is that it may not necessarily be the case.

1) High valuations

At price to earnings multiples of 18-19 times, the Sensex was expensive at 28,000 points on a one year forward earnings basis. This was higher than average p/e multiples of 17 times. The mantra to make money is to buy at lower levels and sell at higher levels. But, investors were buying at all levels. That is foolhardy and tantamounts to greed.

Check sensex gainers and losers

2) No real pick-up in growth

Corporate performance and shares go hand-in-hand. There is hardly any pick-up in growth in India as was largely expected. Things on the ground remain dismal and the industry has voiced their concerns.

3) Quarterly results were poor

The last two quarters have been particularly poor and share prices and financial performance could not match. Investors have realized that quarterly numbers are poor, while share prices have already run-up. Hence there has to be some reality check at some stage and that is happening now.

4) China maybe just an excuse

China is perhaps just an excuse. As a matter of facts, Indian markets were overvalued and results did not meet expectations. The entire China episode is a great opportunity to dump stocks.

5) Monetary easing and easy money

The amount of easing done across the globe by central banks from Europe to Japan, ensured that global liquidity remained benign. When you have money, through so much easing, you have to park it somewhere and stocks was the best.

So, Foreign Portfolio Investors drove share prices in India higher and now when they are selling, small investors are trapped.

Should you invest now?

If the markets fall another 10 per cent from here, it would make sense to invest in the same or else it would be best to stay invested in cash. This is because the Sensex would be at price to earnings of around 15 times, which would be more realistic.

GoodReturns.in