So far, earnings season continues to surprise Indian investors to the upside. As Sensex continues to hover around its all time high, most investors will do well to realize that expectation investing can come as an handy tool a bit before earnings season is about to start. Most investors do not use DCF while analyzing a stock/company. I do though. With so many assumptions and complexities built into it, DCF does not act as a quick tool to help investors/speculators make money. In such a scenario, they can resort to what Michael J. Mauboussin calls Expectation Investing.
Expectation Investing is also knows as Reverse DCF. In this method, instead of trying to value a company (stock) by forecasting free cash flows into the future and then discounting them to current period, you do it the other way round.
You look at the current stock price and then try to find out what assumptions market is building into the price. The analyst can review these assumptions and see whether expectations are excessively high or too low to arrive at the decision of investing in that particular company or not.
The biggest advantage of this method, is as you can see, is it eliminated the need of forecasting. However, this method does not provide a quick way to analyse stocks but when formalized into a framework it can help an investor to make a quick decision.
Finally, as a noted statistician George Box said “All models are wrong; some are useful.”
I urge my readers to share with us their experience with Reverse DCF process, if they have tried it in the past.
Sensex gained 3.1%, Nifty gained 3.2% and CNX Midcap was up by 2.3% this week.
Monday – Sensex up by 0.4%, Nifty up by 0.3%, Midcap up by 0.6%
Market party over good Infosys results (guidance) ended early as inflation played spoilsport. September WPI was 6.46% against 6.1% in August and 46 bps above the street estimate of 6%. Surge in inflation has put RBI in a fix and investors on back foot as RBI now will find it difficult to lower interest rates and even may lead to rate hikes to contain the inflationary pressure.
Tuesday - Sensex down by 0.3%, Nifty down by 0.4%, Midcap down by 1.2%
Yesterday’s high inflation numbers led to selling in banking and other rate sensitive stocks. HDFC lost some ground as bank reported its slowest growth quarter in a decade. HDFC earnings increased 27% y-o-y against its record 30% growth in every quarter in last decade.
Wednesday – Markets closed on Eid.
Thursday – Sensex down by 0.6%, Nifty down by 0.7%, Midcap down by 0.4%
Markets were down as investors resorted to profit booking as Infosys and TCS good results quickly became the story of the past. The market did not move much on the news of deal on US shutdown and debt ceiling. Most talked about event of recent times continued to be ignored by investors in the Indian markets.
Friday – Sensex up by 2.3%, Nifty up by 2.4%, Midcap up by 1.4%
A good close to a rather mute week. Markets went up as corporate earnings continued to surprise. L&T, the capital goods major, reported a 7% rise in quarterly profit beating the analyst estimates. Market sentiment was also boosted by the news that LIC will invest Rs. 40,000 crores ($1.28 billion) into the markets in FY14.