What is Market Cap to GDP Ratio (Buffett Indicator) | Latest India Number?

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India’s Market Cap to GDP ratio jumped 89, at 10-year high driven by markets at life-time highs as on November 18, 2020. The ratio was at 56, the sharpest decline in March 2020.

India’s Latest Market Cap to GDP Ratio

Introduction

India’s Market Cap to GDP ratio jumped 89, at 10-year high driven by markets at life-time highs as on November 18, 2020. The ratio was at 56, the sharpest decline in March 2020.

In March 2020, the Indian stock market seemed to be closer to the bottom of current correction phase. After the steepest correction of almost 30% (YTD), India’s Market Cap to GDP ratio is at its lowest since FY2010, leading to unprecedented collapse in market valuations in bear markets.

Market Cap to GDP Ratio, also popularly known as the Buffett Indicator is used to assess the valuations of the stock markets of a country. Let us discuss what does this valuation metric tell, how to interpret the ratio, what are the limitations of The Buffett Indicator in the Context of Indian Market Valuation etc.

Detailed Stock Analysis by Invest Yadnya
Detailed Stock Analysis by Invest Yadnya

Market Cap to GDP Ratio | The Buffett Indicator

Market Cap to GDP Ratio | The Buffett Indicator
Market Cap to GDP Ratio | The Buffett Indicator

Meaning

  • Buffett Indicator is a valuation metric which is used for assessing whether the country’s stock market is overvalued or undervalued, compared to its historical average.
  • The ratio has become known as the Buffett Indicator in recent years, after the investor Warren Buffett popularized its use. Warren Buffett believes that Market Cap to GDP Ratio is one of the best measure of where valuations of the market stand at any given moment.
  • As per Buffett’s comment, the ratio is a simple way of looking at the value of all the listed stocks on an aggregate level, and comparing that value to the country’s total output (which is its gross domestic product).  

Formula

  • Market Cap to GDP Ratio = (Value of All Listed Stocks in a country / GDP of the country) * 100
  • Thus, It is a measure of the total value of all publicly traded stock in a country, divided by the country’s Gross Domestic Product (GDP).

Interpretation

  • If the Ratio is :
    1. 50% to 75%, the market is said to be modestly undervalued
    2. 75% to 90%, the market may be fair valued
    3. 90% to 115%, the market is said to be modestly overvalued
  • In short, if the Buffett Indicator is too high, it means that the companies are not producing enough to be worth their valuations on the stock market. Therefore a downward price correction is inevitable.
  • The Buffett indicator is like a Price-to-Sales ratio for the entire country.  It relates very closely to a price-to-sales ratio, which is a very high-level form of valuation.
  • In valuation, the Price/Sales or EV/Sales ie.(Enterprise Value/Sales) metric is used as a measure of valuation.
  • A Price/Sales ratio of greater than 1.0x (or 100%) is generally considered a sign of being overvalued. On the other hand, companies trading below 0.5x (or 50%) are considered to be undervalued.
  • In order to properly assess a company’s valuation, other factors have to be taken into consideration, such as margins, growth etc.
  • This is consistent with the interpretation of the Buffett Indicator, which makes sense, since it’s essentially the same ratio, for an entire country instead of for just one company.

India’s Market Cap to GDP Ratio

  • From the below chart we can clearly see that, the Buffett Indicator of India has rarely exceeded 100%. This is because unlike developed economies like US, India’s economy is dominated by the unorganised sector, which is unlisted.
  • However, the Buffett Indicator is helpful in Indian context too. Whenever it has moved too far from the long-term averages, it has signalled a likely correction in over-optimism or over-cautiousness among market participants.
India’s Market Cap to GDP Ratio – Year-on-Year Trend
India’s Market Cap to GDP Ratio jumped 10-year High
India’s Market Cap to GDP Ratio jumped 10-year High
  • The ratio is a backward-looking indicator comprising historical data. The historical average of India’s Market Cap to GDP ratio over the last 20 years period is around 75.
  • Thus, we can say that stock market outlook in March 2020 (where the ratio is 56) was closer to its bottom. Thus the Buffett indicator gives investors an early warning before bottoming of the markets.
  • In current Equity market outlook as on November 18, 2020, India’s Market Cap to GDP ratio jumped 89, 10-year High from 56, the sharpest decline in March 2020 (Lowest since FY2009-10).
    • Indian Stock market has gone through a big corrections due to Heavy sell-off by FIIs amidst Coronavirus outbreak.
    • For Q1 FY21 GDP recorded the sharpest contraction of 23.9%, resulting in lower TTM GDP base for the ratio.
    • However, the Indian Stock Market soars to Life-time Highs on Nov 18, 2020 on the back of the exceptional optimism in the markets over the Victory of Mr. Joe Biden in US Presidential Election, Positive sentiments of global investors after the announcement of development in COVID-19 vaccine, Strong comeback of FIIs in Oct & Nov-20 boosted Indian Stock Market Valuation.
  • Thus, if we compare with the historical average market cap to GDP ratio of 75, we can say markets are currently trading at higher valuation that its historical average valuation.
India’s Market Cap to GDP Ratio – Monthly Trend

How the markets valuation changed month-on-month for FY2019-20? Below chart shows the monthly movement of India’s Market Cap to GDP Ratio.

Current Market Cap to GDP Ratio of India
Current Market Cap to GDP Ratio of India
  • The historical average of India’s Market Cap to GDP ratio is around 70. Corporate Tax Rate Cuts (20th Sept-19) was a great boosting measure given by the Government to Indian Corporates to build business confidence and Removal of Surcharge on FPIs, Foreign Investors were quite positive about
  • FPI investments were started reviving after corporate tax rate cut announcements on 20th Sept from earlier 30% to 22%. A positive sentiment has been built in the market due to expected increase in profitability of Indian corporates. Also, Roll-back of Super-Rich tax to revive economic growth and Government’s PSU Divestment drive, FPIs have been buying in Indian equity segment.
  • As a result, there was a consistent rise in the India’s Market Cap to GDP ratio from 69 in September 2019 up to 80 in January 2020 (As shown in the above chart).
  • However, after the Coronavirus outbreak in China, Italy, South Korea, United States, the overall sentiments of Foreign Investors got affected adversely due a number of uncertainties across global economic outlook. Heavy sell-off by FIIs in Indian Equity market was seen since last few weeks (February-20 & March-20).
  • In Equity market outlook as on March 18, 2020, India’s Market Cap to GDP ratio had corrected sharply at around 56. It is mainly due to the recent corrections in the stock market amidst Coronavirus outbreak and its impact on economic outlook, both domestic as well as global.
Equity Market Outlook as on November 18, 2020
  • In current Equity market outlook as on November 18, 2020, India’s Market Cap to GDP ratio jumped 89 from 56 in March 2020. The ratio also reported a sequential M-o-M rise from 82 as on Oct-20.
    • So, from the above monthly trend graph, we can say that current equity valuations are slightly above the historical average of 70.
    • Indian Stock Market soars to Life-time Highs on Nov 18, 2020 on the back of the exceptional optimism in the markets over the Victory of Mr. Joe Biden in US Presidential Election, Announcement of development in COVID-19 vaccine, Strong comeback of FIIs in Oct & Nov-20
    • After bottoming out from 25,981 on March 23, 2020, BSE Sensex has soared by almost 70% to Life-time High at 44,180 as on November 18, 2020.
    • Strong Recovery of Markets is evident from the current all-time high index levels. From Dalal Street to Wall Street, Bull run continues on the bourses. All major Global Indices are trading at Life-time high levels currently.
  • Strong FIIs Pumping into Indian Equities
    • FIIs (due to the heavy liquidity infused by Central Banks) has supported the Indian Stock Market to set for a recovery in April 2020.
    • In Oct-20 & Nov-20, Indian Stock Market soars record high up 14% from Sept end on account of strong FII pumping into Indian Equities.
    • For November month alone, FIIs has poured almost Rs.41,209 Cr into the Indian Equity Markets as on November 18, 2020. Whereas in Oct-20, FII inflow was Rs.14,537 Cr.
  • As a result, after bottoming out from 25,981 on March 23, 2020, BSE Sensex has rebounded almost 70% from March lows to 44,180 as on November 18, 2020, with a 11.5% sequential rise from October-end.

Limitations of The Buffett Indicator

  • The market only encompasses the value of all the listed companies in the country. But the GDP is the value of all incomes which includes unlisted private companies, small businesses, MSMEs, proprietorship, partnerships, government companies, government departments etc. To that extent the numerator and the denominator are not entirely comparable.
  • The ratio is impacted by :
    1. Trends in Initial Public Offerings (IPOs) and
    2. Percentage of companies that are publicly traded (compared to those that are private).  All else being equal, if there was a large increase in the percentage of companies that are public vs private the Buffett Indicator would go up, even though nothing has changed from a valuation perspective.
  • The applicability of the buffett indicator is higher when the market cap reflects a much larger share of economic activity in the country. That is why the ratio is widely used in the advanced/developed countries like the US, UK, Singapore, Germany, Sweden where more of business comes under the formal sector.

7 thoughts on “What is Market Cap to GDP Ratio (Buffett Indicator) | Latest India Number?

  1. Thanks sir, for an informative update ln Market Cap to GDP ratio, kindly do write a blog on how to find out this ratio on real time basis. Or is there any reliable website which gives up-to date data

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