markets: ETMarkets Smart Talk: Mid-Cap valuations at risk! Retail greed rising in Indian markets, warns Vipul Bhowar

In an interview with ETMarkets, Bhowar said: “There is currently a cautious outlook on mid-cap and small-cap stocks in India. Their current valuations are significantly higher than historical averages,” Edited excerpts:
The US Fed delivered a 50-bps rate cut in September and we saw a big move in Indian equity markets as benchmarks hit fresh record highs. How are you viewing this development for Indian markets?
The recent 50 basis points (bps) rate cut by the US Federal Reserve is expected to significantly impact foreign investment flows into India, presenting new opportunities for growth and development.

This has led to a noticeable increase in foreign portfolio investments (FPIs), with around ₹33,700 crore being invested in Indian equities in September alone. Sectors like IT and infrastructure are likely to experience substantial growth and progress due to this change in monetary policy.

While there may be increased volatility due to underlying economic concerns in the US, there is optimism about the potential benefits for sectors like IT and infrastructure from this shift in monetary policy. Investors should stay informed about foreign investment trends and the RBI’s upcoming policy decisions, as these will influence the direction of Indian markets soon.

The interplay between global monetary policy changes and domestic economic conditions presents an opportunity for strategic investment and positive development in the investment landscape.

What does the US Fed rate cut also mean that a slowdown is underway in the world’s largest economy? What is the kind of impact you see on India Inc. earnings, rupee and debt markets at large?
While the US Fed’s rate cut is a positive development for the global economy, including India, its impact may be more muted compared to historical cycles due to differences in economic conditions, domestic policy considerations, and the already strong investor interest in India. RBI’s response will be crucial in shaping India’s financial outlook in the coming monthsOn Earnings
The rate cut is expected to reduce business borrowing costs, promoting capital investments and expansion plans, particularly in sectors sensitive to interest rates, such as infrastructure and metals. Industries like IT may experience increased demand as companies expand their budgets due to reduced financing costs, and consumer goods are also positioned for growth with cheaper financing becoming available.

On Debt
The Fed’s rate cut is expected to positively impact the bond market by lowering bond yields and increasing liquidity. This could make existing bonds more attractive and lead to cheaper borrowing costs for government and corporate entities, stimulating further economic growth.

On Rupee
“Increased foreign investment may lead to higher demand for the rupee, resulting in a stronger rupee against the US dollar in the short term. A stronger rupee may lower import costs but make Indian exports more expensive. A gradual rupee depreciation due to global economic uncertainties and domestic inflation pressures can be expected.”

How do you see RBI taking its stand as the US Fed cuts rate?
The RBI is poised to implement two 25 bps rate cuts by March 2025 (consensus estimates), driven by favourable conditions resulting from the Fed’s action and easing inflation rates in India. This reflects historical trends of central banks adjusting their policies in response to significant shifts from the Fed.

The RBI faces a complex balancing act, considering domestic economic indicators such as inflation and growth and external influences like capital flows and currency stability. Notably, a stronger rupee resulting from capital inflows could adversely affect exporters, a concern for the RBI.

Ultimately, the RBI will base its decisions on India’s unique economic landscape, including its inflation targets and growth objectives.

The Indian market is trading at record highs—does this make you cautious or bullish about the current levels?
The Indian market’s record highs are a testament to its resilience and growth potential. Valuations are expensive compared with the historical average but are not highly stretched.

Sectors like FMCG, consumer durables, and pharma are expected to do well going forward due to improving demand, lower input costs, and resilient earnings.

However, investors should also be mindful of the risks and not get carried away by the euphoria. A balanced approach, focusing on quality stocks and diversification, is prudent at this juncture.

Do you see greed among retail investors or most of the money is coming via MFs so investors are putting money irrespective of market level?
The current sentiment among Indian investors shows a significant presence of greed. Many retail investors are investing heavily in equities, especially sectoral funds, which raises concerns about potential market corrections if valuations become excessively inflated.

Greed often leads to speculative buying, where investors chase after rising stock prices, sometimes ignoring fundamental valuations. This behaviour can create bubbles, as seen with mid-cap and small-cap stocks trading at historically high multiples.

How will FII flows shape up post the US Fed rate cut?
The rate cut may boost foreign investors’ risk appetite, but valuation concerns could limit significant FII inflows in the short term. FIIs will likely prioritise companies with strong earnings growth potential over increasing exposure to Indian equities. High valuations temper optimism about India’s GDP and corporate earnings growth.

Which sectors are on your radar, or which sectors are you overweight on?
The financial sector, especially private sector banks and non-banking financial companies (NBFCs) is currently favoured due to reasonable valuations. The healthcare sector is expected to experience substantial growth due to ongoing investments and reforms.

The consumer sector is projected to remain strong, supported by government spending and favourable economic conditions. There are also incentives for increased investment in capital goods and infrastructure-related stocks, which tend to perform well during economic recoveries.

Do you see any early signs of exhaustion in the small & midcap space?
There is currently a cautious outlook on mid-cap and small-cap stocks in India. Their current valuations are significantly higher than historical averages. This may lead to corrections as market dynamics favour more stable large-cap stocks and sectors with valuations trading below their historical averages.

Which theme is likely to do well—value or growth, as the interest rate cycle is likely to peak soon?
Value-based strategies tend to perform well when interest rates rise due to their lower sensitivity to rate changes, stable dividend income, and favourable performance during inflationary periods.

On the other hand, when interest rates fall, growth stocks are favoured over value stocks because of their greater sensitivity to discount rate changes, increased investment opportunities in a low-cost borrowing environment, and historically more substantial returns during such periods.

(Disclaimer: Recommendations, suggestions, views, and opinions given by experts are their own. These do not represent the views of the Economic Times)