When investors worry about risks in equity investing, it is not a 15 per cent or 20 per cent correction in stock prices (which is a common occurrence) that keeps them awake at night. What they really fear is losing 50-90 per cent of their capital in shares that sink like a stone, which they never recover. One reason this happens is worsening fundamentals. When a company loses customers, is hit by regulation, takes on too much debt or makes diversification or acquisition moves that backfire, this destroys its financials and tanks its share price.
However, in bull markets, there is another reason why some stocks tank 50 per cent or more. This is when hype about a business, promoter or market opportunity props up their valuation so much that when normalcy arrives, the stock falls off a cliff. You can avoid losing money in such ‘storified’ stocks, if you know what signs to look for in analyst reports or market commentary about a business. Here are some common plugs which should set your alarm bells ringing about a stock.
The next big thing
In every bull market, there is one theme or set of businesses that is touted as the ‘next big thing’ and has investors rushing to own a piece of it. Usually, this ‘next big thing’ is a billion-dollar opportunity, on which listed companies have barely scratched the surface. The ‘next big thing’ businesses have a technical or technological aspect that lay investors can’t easily understand. This helps build a narrative about the massive disruption that is just round the corner, making it dangerous not to own these stocks.
In 1999-2000, these must-have stocks belonged to companies laying optical fibre cables for the internet or operating in the media and communications space. In 2007-08, it was companies putting up Ultra-Mega Power Projects or infrastructure projects. During Covid, you needed to own health insurers and diagnostic labs which were scaling up through ‘asset-light’ models. Then there was the China-plus-one opportunity in textiles and chemicals. In each of these sectors, companies were growing at a fair clip when the narratives were being crafted. As investors were led to believe that their earnings would gallop even faster due to a major tectonic shift, their PE (Price-Earnings) multiples soared disproportionately.
When their earnings growth (which was one-off and not structural) slowed, PEs collapsed in tandem, leading to a double-whammy for investors who faced a 70 per cent or 80 per cent loss. Today, when you find companies in waste recycling, data centres or AI (artificial intelligence) linked-businesses trading at three-digit PEs, you need to budget for the possibility that they’re infected by the “next big thing” bug.
Recently-listed IPOs
If there’s one set of stocks which can make your money vanish like magic, it is the newly-listed companies. The modus operandi is simple. Build a narrative about the company operating in a business with a massive addressable market the size of the sun, or talk about a coming tectonic shift from unorganised to branded players. Show stellar growth just before the IPO. Dangle the promise that this is only the tip of the iceberg and set a high IPO asking price. This hype powers the stock upwards for many months after listing too, as investors who missed the IPO bus jump on to the racing new listing. Eventually, as growth normalises and the stock gets derated, investors are left holding the baby.
There are umpteen examples of this in the recent bull market. But the stock of wedding-wear retailer, Vedant Fashions, is a good example of how the formalisation narrative can play out. During its IPO, Vedant’s financials were underwhelming, with revenues of ₹360 crore, net profits of ₹98 crore and an EPS of ₹4 in the first half of FY22. The IPO, though, was priced at over 80 times earnings. Sell-side reports hyped up Vedant’s ‘dominant position’ in India’s ‘branded celebration and wedding wear’ market. The reports talked ad nauseum of Indians celebrating 9-10 million weddings each year with average per-day spends of ₹10-20 lakh. They argued that given how small Manyavar was in this $130-billion unorganised market, Vedant Fashions could scale up its earnings manifold through a shift to branded wear. As it turned out, after a bump-up in numbers in FY22 and FY23, Vedant proved as vulnerable as any other branded retailer to the slowdown in discretionary spending from FY24. After reporting muted 7 per cent profit growth in the last three years, the stock’s PE multiple has derated from over 118 times to 42 times, with the stock falling 47 per cent in the last year.
Superman complex
In bull markets, analysts sometimes end up endowing simple businesses with extra-ordinary qualities, believing that they can overcome any adversity and keep delivering scorching growth. This leads to markets mistaking cyclical growth stories for structural ones and taking management guidance as gospel.
The rise and fall of Relaxo Footwears, a leading maker of popular footwear, offers a good lesson on this. Between FY17 and FY22, Relaxo scripted an unusual growth story, managing a 63 per cent jump in its sales and doubling in its net profits. While the rising popularity of Relaxo’s Sparx brand in the South and West, and high demand for open-toed footwear during Covid powered the numbers, stock valuations rapidly expanded on the narrative about management plans to double capacity to grab share in the North and East, new product lines to ride the premiumisation trend and so on. However, raw material prices shot up sharply in FY23, consumers switched to premium footwear and the company was forced to take price-cuts to clear inventory. Consequently, Relaxo’s financials took a sharp hit. A pricey PE of 147 at the peak of the hype cycle in 2023, saw the stock losing over 50 per cent in the last year.
The above, though, are just a few examples of the kind of narratives that may be used to justify sky-high valuations in bull markets. There are likely many more. You may not have prior experience with all of them. However, you can definitely check if the bulk of a stock’s gains have been coming from a rerating of its PE multiple or actual earnings growth. If earnings are lagging far behind the narrative, it’s a good sign that the wealth you’ve created in the stock has come more from fiction than fact. You ought to exit before the hype cycle ends.
The author is a Contributing Editor
Published on October 4, 2025
