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Investors in consumer discretionary stocks believe the pent-up demand would be robust as the country gradually reopens post the second covid wave. This reflects in the share performance of discretionary product makers, whose valuations have gone through the roof. In fact, they are now among the most expensive stocks globally.

In a 6 July report, Jefferies India Pvt. Ltd’s analysts said, “Indian discretionary stocks are at a significant premium to global staples, discretionary and even China Tech as well as FAANG/ FANGMAN stocks! On an EV/Ebitda as well as a price-to-earnings basis, (they) are among some of the most expensive stocks in the world."

EV is enterprise value and Ebitda is earnings before interest, taxes, depreciation and amortization. FAANG refers to stocks of technology firms Facebook, Amazon, Apple, Netflix and Alphabet. FANGMAN additionally includes Nvidia Corp. and Microsoft Corp.

Great expectations
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Great expectations

Back home, among consumer discretionary stocks, Trent Ltd’s shares are the priciest, trading at a price-to-earnings (PE) multiple of 258 times, based on Jefferies’ FY23 estimates. This is followed by Avenue Supermarts Ltd, which trades at 102 times. While Trent’s strong balance sheet helps investor sentiment, muted earnings estimates make their valuation multiples look rather high. On the other hand, Avenue enjoys the so-called scarcity premium, enabling it to fetch higher valuations.

Varun Singh, analyst, IDBI Capital Markets & Securities Ltd, said, “This is because discretionary firms are growing at a much faster rate than consumer staples firms can possibly grow at."

To be sure, the post-covid impact has been far greater on demand for discretionary products. And while growth is expected to bounce back, the difference in earnings growth rates isn’t expected to be so high, so as to warrant high valuation differentials.

Jefferies expects Trent and Avenue’s earnings per share CAGR over FY20-23 at 21.5% and 17.7%, respectively. This means their PE-growth multiple is at 10 times and 6 times respectively. The earnings growth estimates for consumer staples peers is lower in the range of 10-12.5%. But their valuation multiples are much lower, leading to PE-growth multiple of around 4.5 times. The pricey valuations of consumer discretionary stocks mean any disappointments on the earnings front will be a rude shock.

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