Why Indian markets have been underperforming peers and why the outlook looks incrementally better
News Summary
The article highlights that Indian equities have significantly underperformed global peers over the past year, with global indices returning nearly 20% while Indian markets were flat to down 4-7% (INR) or 10-12% (USD). This 20-30% relative underperformance is attributed to weak earnings growth, stretched valuations, sharp FII outflows, and external headwinds like U.S. tariffs and visa restrictions. However, the outlook is incrementally improving. Valuations have normalized, government reforms are stimulating consumption and investment, and global dynamics (e.g., lower U.S. interest rates, weaker dollar) are becoming more favorable for FII inflows. The author anticipates a rebound in Indian equities over the next 12 months, suggesting a bottom-up, theme-based approach focusing on "Finsumption," capex-linked sectors, and "Make in India" manufacturing. Risks include global slowdowns, commodity price spikes, and domestic implementation challenges of reforms.
Background
Over the past year, Indian equities have challenged their long-standing reputation as a structural growth story by significantly underperforming global peers, with a relative decline of 20-30%. This shift has led investors to question India's economic and market fundamentals, especially amidst a broader global market rally. Historically, the Indian market has been known for its high growth potential and valuation premiums. However, earnings falling short of expectations, elevated valuations, and sustained outflows of foreign capital have collectively formed the macro backdrop for its recent underperformance. External pressures from the U.S. Trump administration's protectionist trade policies, particularly tariffs on sectors like textiles and gems, and visa restrictions affecting the IT industry, have also contributed to the headwinds.
In-Depth AI Insights
Is the anticipated rebound in Indian equities sustainable, or merely a short-term correction? The potential for a short-term rebound in Indian equities is high, but its sustainability hinges on several critical factors: - Effective implementation of government reforms: The successful execution of consumption stimulus and public capex projects is paramount. - Actualization of earnings growth: Whether corporate earnings consistently surpass expectations is central to sustaining valuation recovery. - Stability of global capital flows: If U.S. interest rates continue to decline and the dollar weakens, FII inflows could stabilize, but a global recession or geopolitical tensions could swiftly reverse this trend. - Structural issues: Despite some valuation correction, certain segments of the Indian market may still harbor structural overvaluations, potentially limiting long-term upside. Can the 'Make in India' and capex-driven growth model effectively withstand global economic headwinds? The 'Make in India' and capex-driven growth model can provide a degree of insulation but is not entirely immune: - Domestic demand support: Government initiatives like PLI schemes and infrastructure investment stimulate domestic manufacturing and consumption, potentially reducing reliance on exports and enhancing economic resilience. - External dependencies: Key raw materials and technologies still require imports, meaning global supply chain disruptions or commodity price spikes can still impact production costs and profit margins. - Policy execution risk: The efficiency of India's bureaucracy and potential fiscal tightening measures could hinder the full rollout of capex projects, thereby blunting their counter-cyclical impact. Will the resurgence of Foreign Institutional Investor (FII) inflows trigger a new round of valuation bubbles? FII inflows indeed pose a risk of inflating valuation bubbles in certain segments, but this is likely to be more selective: - Corrected valuations: Current Indian market valuations have retreated from their peaks, suggesting a lower immediate risk of a broad-based bubble, though specific hot themes (e.g., "Finsumption" and high-growth manufacturing) could become overbought again. - Narrowing yield gap: The narrowing yield differential between Indian and U.S. bonds is a key attraction for FIIs. If this trend reverses, funds could exit quickly, rapidly compressing valuations. - Growing domestic investor strength: In recent years, the power of Indian domestic institutions and retail investors has grown significantly. Their investment decisions, potentially more focused on fundamentals, could provide a stabilizing force against excessive speculation.