Goldman Sachs warns of stock valuations overshooting

Mumbai: Equity markets may be on a roller coaster move till new government formation in New Delhi but US-based brokerage house Goldman Sachs sees further upsides to the benchmarks capped in the next 12 months given the valuations looking not cheap after the big rally on Monday.

"Equity markets rose almost 4 per cent post the exit polls. With markets trading at 18 times forward earnings, we see limited fundamental headroom for any significant re-rating," Goldman Sachs said.

"In the medium-term, we expect Nifty returns to be largely driven by mid-teen earnings growth aided by banks with a 12 month Nifty target of 12,500. Equity valuations are not inexpensive and given the 4 per cent move, more positive market sentiment is getting priced in quickly. We see the equity valuations as 'fair', but a potential for 'valuation overshoot' in the near-term if exit polls come true," the US based brokerage firm said.

"In the event of a decisive mandate which enables further progress on structural reforms, we expect a faster recovery in the corporate earnings over the medium term."

Secondly, regardless of which party or a combination of parties takes office, Goldman Sachs sees the new government's potential major policy changes to focus on land, labour, privatisation and export promotion.

"We see potential reforms to focus on four key themes: Land — transparent auctions, and digitization of records; Labor — creating an enabling regulatory environment; Privatization — in areas such as agriculture and banking; and Export promotion — through targeting new export markets such as Eastern Europe and Central Asia; and creating a credible system of grading and certification." The brokerage house sees 2.5 per cent boost or drag to its base case of 7.5 per cent for average real GDP growth during FY2020-2025 in accelerated reform and regression in reforms scenario respectively.

"We see baseline growth rising up to 10 per cent in our acceleration scenario of effectively enforced major reforms; or narrowing to 5 per cent in our regression scenario of stalled reforms."

The accelerated reform scenario assumes the new government would have a sufficient majority to introduce important legislative reforms, as well as a clear strategy, and the will to implement reforms.