Correction Ahead, But Keep Your Gunpowder Ready — Talking Point This Week

This week the talk of the town is the market outlook for near term. The Indian markets have witnessed a remarkable pullback in the last few days. Does it seem stretched? To some, it does. To me, it does too.

The tariff deal, important for both the US and India, when done, will be a good catalyst. However, is it priced in? Likely. Likely that the markets have revved up on the government's consumption boost push. But many are now cautioning against too much of exuberance. Ravi Dharamshi of Valuequest put it out in his X post. Remember, it's done when the fat lady sings. Not before that.

Is there a case for an optimistic outlook on the Indian equity markets? I would emphasise stabilising earnings and positive momentum for broader indices amid recent challenges, especially with a hypothesis of continued growth driven by an anticipated H2FY26 consumption recovery, supported by GST cuts, monetary easing, and earlier income-tax stimuli.

Even though FY26 growth is revised down to 6% due to drags from materials, industrials, and financials, one has to argue that valuations have moderated. This has predominantly been led by a volatile 2025 marked by U.S. tariffs, fiscal strains, and a weakening dollar, and many have cautioned that the AI enthusiasm resembles past bubbles, with big tech capex at unsustainable levels.

There has been a sharp rise in effective U.S. tariffs to ~18% in 2025, with annualised duty receipts hitting $ 30 billion in July, signalling higher consumer costs and stagflation risks amid slowing growth. Remember, AI capex now exceeds 1.2% of global GDP! Let us see how that unravels. Domestically too, risks like fiscal shortfalls, job creation challenges, and tariff impacts on the rupee and Balance of Payments remain.

Domestic macro, growth and flows may be the antidote. Inflation (CPI) is projected below 4% for FY26, with liquidity surplus at Rs 4.5 trillion post-injections, and rural wages reviving.

Foreign portfolio investors (FPIs) have resumed modest buying in October 2025 after heavy selling, while domestic flows stay robust. Consensus remains bullish for FY27 at 15% growth, driven by banks and energy turnarounds. Sector-wise, materials and industrials show strong FY26 growth (60% and 40%, respectively), contributing heavily to overall Nifty EPS, even as energy and discretionary face near-term declines.

Nifty's one-year forward PER is at roughly 20-21x, having cooled to near its 5-year long-term average (LTA) from June 2025 highs, while P/BV remains near +1sd. BSE200 metrics are at mean levels but improving from recent peaks. Small- and mid-cap indices show moderating TTM PERs (e.g., Nifty Smallcap 250 at 31.2x vs. 5Y average of 27.5x), signaling some relief from overvaluation.

It is noteworthy that market trends depict weak breadth, with only 30-44% of BSE 500 stocks outperforming on a one-year basis, and median drawdowns deeper than index levels, indicating a healthy time correction. Moreover, the relative valuation versus other markets looks much better than how they have looked in the last many quarters, with MSCI India PE premium to EM being near 50% average after 25% underperformance.

A combination of better valuations, a possible thaw in India-US relationship and the India-China ties, government policies and potential earnings recovery may all help the mood.

In the near term, the higher RSI and some quant indicators show that markets are possibly stretched, and therefore a time correction may happen. However, any sharp correction might be viewed by the market as an opportunity to log in to select names. Cellphones, autos, cooling products are all showing promising growth, and correction in valuations into companies that make these might be in order.

Thus, do your research and keep gunpowder ready for the chances of large deployment may not come too often.

Happy 2082 everyone!