CNX Small Cap Index PE – Running Rogue?

Price Earnings Ratio is something I believe is an important number and the PE ratio for Index has a way of showing where we are and based on past data what can be expected (with a reasonable probability of success) in the forthcoming months / year.

Consequently I use Nifty PE (while Sensex PE has a much longer history, its now not available for Free). The other day a friend on twitter asked me whether I was tracking the Small Cap Index. Curiosity sake, I downloaded the same and was stumped on finding it showing moves that even a micro cap will not show. 

Do look at the weekly chart of the Small Cap Index

It’s one thing to expect gaps in historical data when you are checking out a stock. But this is worse since the gaps are on both sides and worse, day to day changes are some times so huge so as to make little sense as to what changed.

For example, the Small Cap PE rose from 24.17 to  49.34 one fine day in September 2012. The change in Index on same day (0.8%). On 16th Jan 2013, PE fell by 20% even as the Index fell by 1.5%. Another 20% fall in the PE was noticed on 1st April 2013 whereas the Index that day actually climbed 2.2%

In March and July of 2013, we once again saw 2 bumps up of nearly 20% on the PE Index even as the Index itself remained more or less flat on those days.

And then we had the mother of all rises as the PE index jumped from 50.17 to 162.83 on 28th March 2014. The Index on the same occasion rose by just 2.1%

On 7th April, the Index went up by 15.5%, went down the same percentage on 5th May and made a pole vault as it jumped 48.5% on 12th May. Of course, since after jumping up the pole, the next way is down,, PE dropped by 46.8% on 19th May. 22nd saw the PE Index jump by 20% and yesterday, another 10% rise.

Since the whole thing made little sense to me, I wrote to India Index Services & Products Limited regarding the huge gaps and today they were kind enough to reply to my mail with the following reply

I understand that as stocks are added and deleted, PE does change. But the kind of change one has seen in the small cap Index makes the whole work of tracking valuation pretty worthless. I mean which Index (other than maybe Zimbabwe) has PE valuations of 296 and this is not a single stock Index but a Index comprising 100 stocks.

Unlike say the CNX IT Index where Infy alone contributes to more than 50% of the weight (the top 3 in sum contribute nearly 85% of the weight making the rest of the stocks just showpieces whose movements will have no significant moves in the Index), here the Top 10 in total contribute just 17% which signifies that the spread is good (Link)

As of now, we do not have a ETF tracking small cap’s, but I believe that as the financial markets mature, we should see a lot more ETF’s than those currently in operation and when that happens, this kind of data blows away any analysis that maybe used with good results elsewhere.