Why Long-Term Sensex Targets Look Like a House of Cards
“The sole function of economic forecasting is to make astrology respectable” – these are the words of one of the famous economists of the 20th century – John Kenneth Galbraith. Sometimes, however, stock market experts try to find their place in the quotation, replacing economists, with overly aggressive Sensex and Nifty goals in the long run. Watching a crystal ball is fun and can give perspective too, but when it comes to making predictions that can influence people’s decisions with their hard-earned money, being careful won’t hurt.
Low credibility risk
Long term goals are safe for market watchers because by the time we reach the future moment for which the prediction was made, the world is overtaken by things relevant to that moment with little memory or consideration. for predictions made 10 years ago. Therefore, one can make bold predictions about Sensex’s position in 2030 or 2050 without too much risk of losing credibility. Mention the risks and make footnotes, one also has a useful excuse, if a question arises in the future.
For example, in 2010, a report predicted that we could be a $ 4.5 trillion economy by 2020. Well, we barely managed to reach $ 3 trillion by 2020. It’s like aim for 100 and score 65! This highlights how seriously wrong long term predictions can be. Today, no one really cares what was predicted in 2010 about the state of the economy in 2020. While it can be argued that many unexpected things have happened, it is quite plausible that unexpected things happen over a long period of time. The fact that sometimes no safety margin is taken into account for unexpected events while long-term forecasting is probably a reason why Galbraith considered astrologers better off.
Humans, in general, tend to have a cognitive social bias known as the “hot hand fallacy”. This bias is the result of extrapolating past successes to the future. For example, after more than double Sensex from its March 2020 lows, which no one had predicted, market bulls might tend to extrapolate this over the long term, driven by confidence in the performance of the market. market over the past year. When such optimism of recent events is extended to a period of 10 years, there is a very high probability of missing the target by a wide margin.
If we look closely, the long-term goals that make the headlines are only announced in times of optimism and euphoria in the markets. Why is this not done during a bear market? Ideally, in the long run, a short bear market shouldn’t matter, right? This reflects the fact that forecasters are influenced by recent trends and events.
Investors should note, however, that the fundamental value of an asset is the same, regardless of the perception of market participants and recent performance. The more the asset is valued now taking into account optimistic scenarios, the lower its future returns will be and vice versa. Therefore, it is time to be cautious about long term returns after a period of exceptional returns like in the past year where a lot of optimism about the future is already embedded.
Holistic analysis absent
“You torture data long enough to admit it” – in general, humans tend to be selective in analyzing data and ignore opposing data points in a way that is in tune with their own. line of thought. There is a phenomenon called reasoned reasoning where we come to conclusions that we are predisposed to believe. Therefore, a market bull can be swayed by reasoned reasoning to give aggressive long term goals like 2,000,000 for the Sensex by 2030, and another to give a goal of 1,000,000 by 2025. Bears can also be under the influence of reasoned reasoning, but they are usually more focused on the short term.
A holistic analysis of the data will ask solid questions to test the assumptions on which the bullish targets are issued. For example, some of Sensex’s optimistic targets are based on expectations that India can increase nominal GDP by 12-13% over the next decade, from the current $ 3 trillion. China’s growth rate since 2006, when its GDP was $ 3 trillion, is expected to play out in India. Whether or not this plays out in and of itself is uncertain, as the Indian and Chinese economies have many structural differences.
In addition, if we expect to grow like China, we also need to analyze why since 2006 to 2020, when the Chinese economy grew 12%, the main Chinese index – SSE Composite – has yielded CAGR returns of just 7%. , 5%. There is an implicit assumption that market returns in India will be greater than the nominal GDP CAGR, which is necessary to achieve long term goals. While a few data points may support this hypothesis, many data points will also support the alternative hypothesis that the market CAGR could be lower.
Likewise, another thing to question is that the current long-term goals are based on aggressive CAGRs from the current index level when the index is trading at around 50 percent premium over the PE. 10-year average follower and 30 percent premium over the five-year average. Reaching the Sensex level of 200,000 by 2030, for example, implies that these valuations will hold, based on assumed GDP / corporate earnings growth. It would therefore also require that in 2030, interest rates in India and in developed countries are at historically low levels as they are today and that quantitative easing (QE) of global central banks be at full speed, because these are factors that have driven the current valuation of premiums from historical levels. Otherwise, in the absence of low interest rates and QE, what factor would justify the current valuation of the PE premium being the current valuation of the PE in 2030? Thus, the assumptions made must be taken with a grain of salt.
Whether it’s economic goals or ultra long term Sensex, make no mistake about it now. The future in a dynamic changing world is more uncertain than ever. Some predictions may come true by chance, many will not.