Markets Underestimating Consumption Turnaround? Scenarios At Play

Consumption-related stocks have continued to underperform the markets even as the macro environment turns supportive of its renewal.

Tax reliefs provided in the Union Budget 2025-26, lower interest rates, and falling inflation leave people with more money in their hands.

Are people underestimating their spending potential, or are they expecting it to flow elsewhere?

As the Reserve Bank of India continues to embark upon monetary easing measures such as cutting repo rate and infusing liquidity, the system liquidity turned surplus in the month of March after three months.

India's key interest rates were also cut by 25 bps for the second time in April. In February, the monetary policy committee voted to cut the repo rate by 25 bps for the first time in five years.

Despite borrowings becoming cheaper and the liquidity surplus making lending easier, the central bank continues to tighten lending norms. On Wednesday, NDTV Profit reported that RBI is looking at stricter rules for bank lending in the unsecured personal loans space.

In November 2023, the regulator had first raised the risk weights in unsecured lending, as it was uncomfortable with the fast pace of growth. Since then, unsecured personal loans have seen growth rates falter.

This has been done in an environment where asset quality had been at an ideal spot in its cycle. Even as delinquencies rise in the micro finance segments, corporate balance sheets remain deleveraged.

As interest rates enter the easing cycle, and RBI changes its stance to 'accommodative', implying that the next move by the central bank will be either another rate cut or a status quo, banks have also followed suit by lowering interest offered on deposits and loans.

As fixed deposits mature, customers have a lower incentive to renew them, as the new rates are lower. This may allow for more free cash to flow into consumption.

The third option is to invest the money in instruments such as mutual funds. Since markets peak in September 2024, Indian equities' benchmark Nifty 50 index fell 17.6% at its lowest point in April, following the uncertain macroeconomic developments introduced along with the tariffs placed by President Trump in the U.S.

While the markets have recovered 13% from their April lows, the benchmark is still 6% below its peak.

Even as net inflows into equity mutual funds continue to hold up, they've faced a steady decline as a share of assets under management.

Investors gravitated towards the allure of high returns promised by schemes such as in the sectoral and thematic category, as well as small and mid cap funds, notes Kshitiz Mahajan, chief executive officer of Complete Circle.

Since markets' peak in September, the promised metrics of high returns for such funds have also declined, making them lose their sheen.

With reduced incentives to deposit money in the bank, and market environment remaining uncertain to invest in, the money remains in the hand of consumers.

As food inflation lowers, consumer price indexed inflation recorded its lowest print in over three years. This leaves consumers with more money in hand, waiting to be spent.

"While we're seeing some pick-up in rural consumption, urban consumption continues to remain sluggish on the back of muted urban wage growth," said Gaura Sengupta, economist at IDFC First Bank.

"We're still in the initial stage of the rate cut cycle, and we expect three more rate cuts, which would aid urban consumption. But what spurs consumption is consumer confidence, which is impacted by sentiment on wage growth, and the wealth effect of stock market," Sengupta said.

"For urban wage growth to pick up, corporate profitability will also have to pickup," she said.

"As the impact of lower interest rates and tax cuts comes in, the benefit should flow through to the discretionary side of consumption," Teresa John, deputy head of research and economist at Nirmal Bang Institutional Equities said.

"A healthy monsoon should also aid rural consumption, with a clear benefit being seen during the festive period in the second half of fiscal 2026," she said.

Even as global brokerages acknowledge the possibility of a consumption pickup aided by the stimulus provided by the government in terms of tax relief during union budget for FY25-26, the market doesn't seem to be favouring consumption related stocks.

"Consumption stimulus of Rs 7 lakh crore (~2% of GDP) more than compensates for Rs 1.5 lakh crore shortfall created by slowdown in personnel credit growth and thus should spur consumption growth," UBS said in an India Strategy note.

"Rural demand is still strong (good rabi crop, rising real rural wages, less work demanded under rural employment scheme and likely above normal monsoon in FY26) and falling food inflation should aid recovery for weak mass urban demand," the Swiss brokerage said.

Citi Research expects a positive effect on urban consumption in the second half of fiscal 2026, if the geopolitical and market volatility is contained, it said in a note.