Pained by its recent fall, the Sensex may be wondering as in "Who moved My Cheese?" (Author: Dr.Spencer Johnson) unable to deal with the changes in its workplace! Suddenly, Sensex is not getting enough of P/E. Instead of PE expansion, which it was used to in 2006, it is now seeing PE contraction Sensex is not getting enough of P/E.

It is your EPS growth, dear Sensex! Your P/E is a slave of EPS growth expectations. Early 2006, the street started with an estimate of around 15% EPS growth for FY07, which was later raised to 20% by March 06 by some, which was further upgraded to as much as 25% by Dec. 06 and finally 28% by Feb 07.

In contrast, the street has started with an estimate of only 16%-20% EPS growth for FY08, which has since been downgraded to about 15% after the Budget. Now, even this 15% is at risk if:

• Monsoons fail
• US economy slows down sharply
• Interest rates continue to rise.

Note that even after the 16% correction from the Feb 8 peak of 14652, your PEG (FY07PE upon FY08 EPS growth) is still stretched at 1.2. Your yield gap is still negative, dear Sensex, at 1.42% as your earnings yield 6.52% (841/12430) is lower than the 10 year bond yield of about 8%.

Yield-gaps do not lie, my dear Sensex, Valuation Guru, Aswath Damodaran vouches for that. The cheese has moved, dear Sensex. I am sorry to say this, but whatever cheese (PE) you have is also at risk of moving away. If your earnings growth slows down. That will be a double-whammy hit, because you will be hurt by twin impact of lower EPS and lower PE. Just as you benefited from the double-whammy impact of higher EPS growth and higher PE last year.

Pleasure follows pain. Pain follows pleasure. That's Nature's law, dear Sensex.

Source: Internet