Excessive equity aggression hampers optimal returns

Despite experiencing a 12 per cent decline from its peak, the Nifty is still trading at 22 times price-to-earnings multiples, and MSCI India is trading at 24.8 times compared to 13.5 times for MSCI Emerging Market. This indicates that the growth premium for Indian markets may not be justified, especially with expected earnings growth of only 6-7 per cent for the current financial year. Macroeconomic growth is expected to bottom out soon, but this may not immediately translate to earnings growth. Headwinds such as a strong USD, rising crude prices, and increasing US yields are posing challenges for Indian equities, leading to potential reallocation of capital by Foreign Portfolio Investors (FPIs).

Currently, large-cap stocks are trading at more reasonable valuations than mid-caps, which are facing challenges in a slow growth environment. However, the selling intensity in mid and small-cap stocks has been lower as FPIs do not have significant exposure to these stocks.

The Trump administration’s US First Policies and efforts to improve government efficiencies and cut income taxes could be positive for the market. However, the imposition of import tariffs could lead to inflationary pressures. Additionally, immigration policies may affect the availability of the labor force, potentially leading to higher wages. The uncertainty surrounding US policies may result in continued FPI outflows until there is more clarity.

A significant portion of domestic flows in the equity market comes from individual investors through mutual funds and provident funds. These funds are restricted from investing abroad, leading to capital chasing stocks at potentially inflated valuations in the Indian market.

India’s GDP growth is expected to show marginal improvement, but the strong US dollar due to global tariffs may result in a shallow policy rate cut by the RBI in the next six months. However, high US fiscal deficits could lead to a hardening of US yields, making it challenging for the RBI to reduce rates.

We anticipate that India will continue its path of fiscal consolidation to avoid inflationary pressures and sharp currency depreciation. There may also be potential tax relief for senior citizens.

At this stage, asset allocation is crucial, as building aggressive positions in equity may not yield optimal returns. Banking sectors may face pressure, presenting a buying opportunity during sharp corrections. FMCG is positioned well after a recent correction, while IT stocks may offer buying opportunities after a potential correction.