Edited excerpts:
You’ve been concerned about earnings lagging valuations by a wide margin for some time. Where do you stand now?
It’s just the start of the quarterly season, but so far the trends have been okay, I would say. We haven’t seen any major disappointment, which was the case earlier. We had a situation where we had earnings downgrades after every quarterly season, based on either a company missing numbers or guiding down numbers. This time around, that’s not the case. If you look at the IT companies, in most cases, it was a slight beat versus expectations, which is a positive. Also, the commentary seems to be okay. Despite all the concerns around global growth, India-US tariff issues and H-1B visa challenges, no company is saying that we are going to see a weaker second half versus the first half. I think most companies seem to suggest that we will see some recovery, but a sluggish kind of recovery, for the IT companies.
Valuations still remain high… FPIs less negative than before amid stock prices correcting alongside earnings downgrades.
Axis Bank reported very decent numbers. Concerns abounded over a steep compression in NIMs (net interest margins) in Q2 because of the recent rate cuts during the course of the year, and some challenges surrounding NPLs (non-performing loans) or some new stressed assets materializing, which is not the case. Based on whatever we have seen so far, it seems okay. So, it looks like earnings expectations have already been brought down to levels which look difficult to miss, which is a good sign, I would say.
What did you make of Tata Consultancy Services’ proposed foray into the data centre business?
It’s an interesting proposition. You know, the company does have a lot of cash for sure—it’s a huge cash flow machine. Right. Now, putting in, let’s say, $6-7 billion over a period of time in a data centre, and even that would not be entirely from TCS, but funded by a mix of debt and equity, even as they look to get some more investors in there. So, I think their investment would be more like around $1-2 billion, at worst, over a period of time. That’s quite manageable with the company generating around $5 billion of free cash flows annually.
But the Street doesn’t seem to have taken their proposition positively?
Though the results were okay, the proposal on the data centre business was not to the Street’s liking. On one side, you have a lot of investors arguing that IT companies have not been investing, and if they continue doing the same thing which they have been doing in the past, the business model could get disrupted because of the advent of artificial intelligence (AI) and whatnot. Now, when they start doing something, you know, they get criticism that they are digressing from their core business of IT services. So, you get all kinds of arguments.
In your recent notes, you sounded more upbeat on earnings growth, going into the next fiscal year. Why’s that?
Firstly, we are getting a lot more positive that we are coming to the end of the earnings downgrade cycle, which was our primary concern for the market for the last 12 months, apart from the concerns on valuations. A year ago, we were looking at about ₹1,250 EPS (earnings per share) for the Nifty 50. That number has now been cut to ₹1,090, which is a massive downfall, like a 12-13% earnings cut in a period of 12 months. It was my primary concern that people are talking about valuations being okay in the context of certain earnings numbers. But we were not confident about earnings numbers coming through, which is what played out.
Actually, the valuations have turned out to be much higher, but in the last year or so, we have also seen stock prices coming down, while at the same time, earnings were cut, which means valuations hadn’t really corrected to that extent.
You will see lumpy net profit growth for the Nifty 50 this fiscal, coming mainly from metals and mining, oil and gas and telecom.
Now, if you look at FY26 growth, you will see about 10% net profit growth for the Nifty 50. And that is very lumpy. It is coming from effectively three sectors. One is metals and mining. Because of the increase in profitability of the steel sector, which is linked to a better steel cycle, plus the safeguard duty, which was imposed by the government in April this year.
Second, you have a decent contribution coming from the oil and gas sector, particularly ONGC (Oil and Natural Gas Corp. Ltd), where the growth is more linked to the administered price mechanism (APM) gas prices, which are linked to a formula. Every year, they get a higher price and a weaker rupee (customers billed in dollars). And then we have telecom, or Bharti Airtel, where, if you recollect, in the fourth quarter of the last calendar year, we had a tariff increase, and the full benefit of that has come this year. Whereas if you look at other sectors, in most cases, we have an earnings decline or single-digit earnings growth. It’s a very funny sort of pattern of growth for FY26. It’s entirely driven by three sectors and companies, very sector and company-specific actors.
Fast forward to FY27, for now, we are looking at 17% net profit growth for the Nifty 50 index. If I slice and dice the net profit numbers by sectors/companies—I’ve done a lot of bottom-up work on that—we are getting a lot more confident that, for a change, the numbers look believable, unlike a year or two years back when we would start with high growth numbers only to be followed by a lot of earnings downgrades. That doesn’t seem to be the case this time around.
The growth is also very broad-based across sectors, which effectively means that even if you have one or two or three sectors disappointing, for whatever reasons, you will still have decent growth as far as the market is concerned.
What sectors hold promise in FY27? Is it the GST (goods and services tax) rationalization and rate cut impact playing out?
If you look at various sectors, starting with autos, which account for 8% of total profits of the Nifty, the first half was a disaster, but going forward, because of GST cuts and lower interest rates, you should hopefully see the volumes pick up.
How much, how long we will wait and see, because that is also tied in with the whole job creation-income growth argument. But you also have the Eighth Pay Commission getting implemented sometime at the end of next calendar year, which will provide the next trigger.
So, auto will go from very low growth this year to some improvement next year. Also, in the case of autos, Tata Motors has been very badly hit because of all the tariffs, cyber attacks, etc. So, naturally, Tata Motors should have better numbers next year. If you look at banks, which is roughly 28% of Nifty 50 profits, this year, you will have a decline in their profits simply because of a combination of low loan growth, a big decline in NIMs linked to the rate cuts of RBI and somewhat higher credit cost in the first quarter of the current fiscal year.
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If you look at FY27, based on all the good things the government has done (in terms of GST cuts), hopefully we see some pick up in the loan growth. NIM should be broadly stable to marginal improvement, and credit costs should be, I could say, stable to somewhat lower. So that drives a big improvement in profits of banks—in fact, we are looking at a 22-23% increase in the net profits of banks.
There are some specific factors linked to HDFC Bank, where you are seeing a transition of its borrowing mix from external borrowings to deposits. So that itself results in a lower cost of funds, which results in higher net interest margins.
Similarly, if you look at consumer staples, discretionaries linked to the GST rate rationalization, hopefully, you should start seeing some recovery. IT, which has been very weak this year—that’s about 12% of Nifty net profits—should see some recovery next year. Obviously, it’s going to be somewhat sluggish, given the fact that we have still not seen any signs of a big recovery in the discretionary spending by companies as yet. Then you have oil and gas, which is about 20% of Nifty profits, where you will see decent growth in Reliance Industries Ltd, coming more from the telecom part of the business, because I assume the company will do one more round of tariff increase in the current quarter. That (tariff increase in wireless) will also be the case with Bharti Airtel Ltd.
Growth seems to be a lot more broad-based across sectors, linked to a low base in some sectors, turnaround in others, and the external environment becoming better for IT and Tata Motors, or sector- and company-specific.
What is the sentiment among foreign portfolio investors, who’ve sold a record ₹2 trillion in the secondary market this year?
FPIs are less negative than they used to be for the simple reason that you have seen one year of no returns, some confidence in earnings numbers as we go forward, stable macros and other markets having gone up a lot more. India has been a big underperformer, as you know, versus most other markets. Have they turned positive? Not yet, I would say. For the simple reason that they still find valuations on the higher side.
F27 will see more broad-based Nifty profit growth, at an estimated 17%, up from an expected 10% in the current fiscal.
And the second and very interesting reason I am hearing of late is that India does not have any company in the three big emerging themes, which are AI, biotech and robotics—dominant themes in US, China, Taiwan and South Korea.
The stocks related to these themes have performed better than the old economy names.
Does that queer the pitch for a return of FPIs to our market?
It’s not easy to pitch India to foreign investors. Valuations have to come to more attractive levels. The hurdle rate for India has become a lot higher, I would say. Until 12 months back, foreign investors did not even want to look at China. The common refrain among investors was ‘it’s an uninvestable market, the government keeps doing its own thing, like common prosperity programmes, a big disaster, we won’t touch. South Korea, we will never touch very bad corporate governance.’
In the last 12 months, though, things have taken a 180-degree turn, with China doing some right things and with DeepSeek (whose chatbot was released in January this year) showing that they have a decent number of very good quality companies. In South Korea, which has always had good companies, the government has undertaken a major campaign to improve corporate governance. What happened in Japan three to four years back seems to be playing out in South Korea now. (PE) Multiples are far lower in such markets compared with those in India, even after a stellar rally there—China is up 35% and South Korea is up 50% (against India’s 8% return) this year. Even after the outperformance, China trades at a PE of 13.5 times, South Korea at 10.5X and India at 20X December 2026 earnings.
Will the valuation premium sustain?
People have been giving a higher multiple to India for three reasons: long-term growth prospects, good quality companies and being relatively better versus other countries. But I am seeing a reversal of those arguments now. I met a host of global investors over the past four months, and for the first time, I heard concerns around India’s long-term growth prospects, which nobody ever asked me before. The questions global investors raised were about job growth and (lack of) R&D and innovation by Indian companies.
Why are there no world-beating Indian tech companies? Indian companies, to my mind, may have become comfortable, given their belief in the country’s long-term growth prospects. They believe ‘we can continue to make a decent amount of money without taking some additional risk,’ if I may put it that way. However, making money easily is becoming more difficult for the simple reason, if you look at any sector in India, you’re starting to see more competition and disruption coming in. So this fundamental premise, which both companies and investors are working with that we have growth in the longer run and (there is) no change in the competitive dynamics, business model, etc., is facing a challenge because of technological changes.
It’s not easy to pitch India to foreign investors. Valuations have to come to more attractive levels.
Take any of the old economy sectors, like oil and gas. It’s being challenged by renewables now, consumer staple companies being challenged by new competitors who are coming through a very different route—D2C brands, for example, right? Or private label brands of retailing companies, quick commerce companies launching their own brands…who knows. The incumbents had assumed that, whatever the income growth in India, we would participate in that. But now, because of more competition coming in, there is a risk of both volumes and profitability being chipped away by the new companies coming in for their share of the pie. So, I think the fundamental issue which India has probably not addressed is this under-investment in research and innovation.
If India doesn’t reach a deal with the US, what impact could that have?
That’s a big negative for sure. I don’t think the market is taking a call that this (50% tariff) will continue for a long period of time. The assumption is that by mid- or end-November, we will have a BTA (bilateral trade agreement) in place. That’s what everybody is saying. Where is that confidence coming from? We don’t know. But the assumption is, you know, I think if both countries are pragmatic, they will find some solution. I just saw a social media post that says India is looking at reducing oil imports from Russia.
That suggests that we might be around the final stages of sewing up a deal. But if a deal doesn’t materialize, you have a problem. For the simple reason that India’s exports to the US stand at about $80 billion. If you take out the items that are exempted from tariffs for now, which are electronics, pharma, etc., that comes to $55 billion. Now, $55 billion is the total amount of exports. If you look at the value-added part, it will come to about $25 billion or so. And $25 billion is, by the way, 60 basis points of the GDP (gross domestic product). It’s not a small amount.
At a 50% import tariff, there are no exports happening from India. In the worst-case situation, you’re looking at a 60-basis-point impact on the GDP, which is humongous. Maybe you can divert some of the export to some other country, etc… you can mitigate it to, let’s say, 40-50 basis points. But that is still a very large number. Now, keep in mind the fact that the total GST-related stimulus, ₹2 trillion or thereabouts, is about 60 basis points.
So, a lot of that could get negated if you have a one-footed impact on the whole India-US tariff mess. Hopefully, that doesn’t happen. There is also a second derivative impact—you have about 22 or 23 million workers in textiles manufacturing and 3 million in gems and jewellery manufacturing. There’s a big negative impact over there if companies are forced to suspend operations for some time. Hopefully, there should be no job losses but a temporary decline in income for the households.
