Are stock indices overvalued?

    Are stock indices overvalued?

    The growing market capitalization last week pushed the Bangladesh stock market to its highest level since its inception in 2013, thanks to increased investor participation.

    The country’s stock markets are seeing higher customer traffic as people look for a more lucrative way to save money amid the pandemic, as banks offer lower deposit rates, according to market analysts.

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    However, many investors are now considering whether to land their shares as the stock market may be overvalued.

    The value of a market index is determined by the price-earnings ratio of the shares traded.

    And while the ratio remains low, many stocks have soared that their earnings do not justify the price, market analysts said.

    Thus, these shares are considered overvalued, but there are still many others trading at lucrative prices, they added. “The stock market is somewhat overvalued,” said AB Mirza Azizul Islam, a former adviser to a caretaker government.

    “But it is a good sign that some sectors, such as insurance, have recently witnessed corrections,” he added.

    Islam, also a former chairman of the Bangladesh Securities and Exchange Commission, went on to say that given the country’s inflation rate, the net interest rates of most local banks were negative.

    “This is why people tend to come to the capital market,” he said.

    Investors should carefully consider a company’s price-to-earnings ratio, performance, dividend history, and so on to realize their true value before making any investment.

    “People should not invest by paying attention to rumors,” he added.

    The DSEX, the Dhaka Stock Exchange (DSE) benchmark, rose to 6,596 points last week.

    The DS-30 index, the blue-chip index, jumped to 2,385 points. The Shariah index of the leading stock market, DSES, rose to 1,439. All three indicators reached a record high last week, according to DSE data.

    “However, many stocks are undervalued so that people can invest,” said Professor Mohamed Moussa, a stock analyst and board member at United International University.

    “However, I believe that investors should be careful in some cases when prices are rising rapidly,” he added.

    Musa went on to say that the insurance sector was overvalued.

    He said that the shares of the banks are still very profitable, but the real picture of their performance is not clear, as they do not meet the appropriate forecasts.

    On the other hand, another large sector, the textile industry, has many listed companies but only a few can be invested in them.

    “In fact, our stock market has an extremely limited investment field, so I do not find any company to invest except 10 to 12,” he said.

    As the indicators are at the highest level, some corrections could happen at any time, which is normal, he added.

    Answering a question, Musa said that price-earnings ratios do not always give an accurate picture of the market as it was calculated based on the average of many small and large companies.

    “However, people need to consider the value for money for a company when choosing to invest in it,” he added.

    The market price-earnings ratio was at its highest level of 30.58 in 2010, when the indices were on a prolonged bull course. Now, it is 18.82, according to data from LankaBangla Securities.

    A senior official of an asset management company who prefers anonymity said the indexes rose in good stocks, but many low-yield and unwanted stocks doubled, tripled or even more within a few months.

    “Therefore, the risks remain in low-performing companies, not in good stocks,” he said, adding that they do not invest by looking at the index but instead by analyzing a company’s capabilities and profits.

    However, the decision of Bangladesh Bank to mop the unused funds from the banks may negatively affect the entire stock market.

    The central bank decided on Thursday to clean up excess liquidity that creates instability in the economy through asset bubbles.

    As part of the intervention, the central bank will revive a bill for the bank of Bangladesh that will allow lenders to invest funds in idleness.

    “Investors should not be afraid because excessive bank liquidity is not the main asset for the stock market,” the asset manager added.

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