Rakesh Jhunjhunwala - excitement before climax coming soon

Indian shares could correct sharply in coming weeks after hitting a series of record highs on unprecedented overseas fund flows, analysts say.

Lifted by a tide of foreign money, Indian shares have climbed 25.4 percent this year to hit a record 17,291.1 points last Friday.

The rise ‘has been too dramatic,’ said Atul Mehra, capital markets head at Mumbai brokerage JM Financial. “Share valuations definitely appear stretched,” he said. Indian shares have risen by over 10 percent just since September 18 when the US Federal Reserve cut interest rates by a surprise 50 basis points, resulting in a flood of money into emerging markets as investors sought better returns. A key signal of a potential looming correction in the Indian market is that so-called ‘market breadth’ has weakened, analysts said.

More shares have lost ground than gained in a rising market for five consecutive trading sessions, suggesting weakness ahead, they said. “This is the excitement before a climax,” key independent Mumbai equity broker Rakesh Jhunjhunwala said. “The markets may rise a bit more — towards 18,000 or even 19,000 points — but there is a huge correction coming.”

Also price-earnings (PE) ratios — a common measure of whether a share is overvalued that divides the price of a stock by its earnings per share — are looking high, analysts say. Right now the average price-earnings ratio is 16.8 times which represents “a 15 percent premium to the long-term average of 14.6 times,” UBS analyst Manishi Raychaudhuri said in a report.

UBS has its Sensex target for end 2007 at 16,300 points while HSBC Securities is more bearish with its target at 14,250 points.

Foreign funds have invested 12.23 billion dollars in Indian equities in 2007, lured by record economic expansion, beating the previous record of 10.7 billion dollars set during full-year 2005. India logged first-quarter growth of 9.3 percent — the world’s fastest after China. Investor bullishness on India has been bolstered by the view that the country should escape major fallout from the US subprime credit turmoil thanks to its largely insulated economy.

While the nation of 1.1 billion people has been gradually easing rigid state controls on trade and investment and opening up its economy, analysts say it remains far less exposed to global financial upheaval than many countries. Indian shares have risen nearly 18 percent since July when significant credit concerns surfaced in the United States. Andrew Holland, strategic investment director at DSP Merrill Lynch in Mumbai, forecast that 2008 would be “a difficult year for equities, including India. “We could see greater flows in the form of foreign direct investment (FDI) rather than overseas fund flows (into shares),” he said. Political uncertainty also hangs as a question mark over the market, analysts said. The ruling Congress party and its communist allies are locked in a standoff over a civilian nuclear technology deal with the United States which the Left says makes New Delhi’s foreign policy subservient to Washington.

“The strongest catalyst to uncertainty in 2008 could be an early general election. Election outcomes are usually sources of significant volatility in Indian markets,” UBS’s Raychaudhuri said. “In that event, not only could valuations suffer, but the capex (capital expenditure) cycle could also slow temporarily,” she said. afp