The Nifty continues to scale new highs and despite some nervousness relating to the Evergrande issue in China, and rising bond yields in the US, was up 2.8% for the month of September 2021. The rise in the equity market has caused some nervousness among investors about whether the market is running ahead of reality given the context of the pandemic.
The income tax department of the government of India in a recent press release, gave out the direct tax collection figures for the current financial year up to Sept 22, 2021. The numbers are quite good – net corporate tax collections have grown at a 2-year compound annual growth rate (CAGR) of 11.1% and net income tax collections have grown at a 12.7% 2-year CAGR. What is even more impressive about the 11.1% corporate tax growth, is that the 6 months ended September 2019 figure included Dividend Distribution Tax while the tax on dividends in 2021, which are now taxed in the hands of the shareholder, are included in the income tax collection figures reported by the income tax department. Further on September 20, 2019 (after the last date for paying advance tax) the Finance Minister had announced a corporate tax cut from 34.9% to 25.2%. In the context of both these factors, our estimates suggest that profit before tax for all corporates put together has grown at 23-24% per annum over the 2-year period. Given that the tax rate has come down, the net profit after tax growth would be even higher. It is to be noted here that corporates pay advance tax based on their estimates of profits for the full year since they are required to pay 45% of their tax due for the year by September 15. We shall await the September quarter results to get confirmation of this.
Now we look at the growth in the Nifty value over the last 2 years. The Nifty value on 30 September 2021 has recorded a 23.9% 2-year CAGR over its value on 30 September 2019. It appears that the Nifty has grown at a rate which is in the same ball park, as our estimate of profit before tax growth over the same period. One can conclude therefore that the Nifty is about as expensive in relation to earnings, as it was 2 years ago.
We need to bear in mind that earnings during the pandemic are supported by a number of factors. First, companies are seeing an improvement in their operating margins because of cost cuts in the work from home paradigm. Economic growth is also likely boosted by higher government spending as also the very low interest rates prevailing in the economy thanks to the very accommodative monetary policies. We have to wait and see whether the earnings will continue this trajectory when things return to normal.
So, while the rise in the Nifty is perhaps supported by higher earnings (as evidenced by higher corporate tax growth), it is also true that we are increasingly finding a dearth of opportunities to invest among our universe of high-quality stocks and for our new accounts we have a high quantum of cash in the portfolio. For our older clients, we have been using the rally in the market to pare some positions and are looking to deploy that cash in other opportunities within our universe, and if opportunities are scarce, this results in cash accumulating in our portfolios. We intend to maintain this discipline.