Expert view: Earnings may not recover anytime soon; green shoots emerging in IT, says Pramod Gubbi of Marcellus

Expert view: Pramod Gubbi, co-founder of Marcellus Investment Managers, believes the Indian stock market has a lot of headwinds to deal with at the current juncture. In an interview with Mint, he said the Indian stock market’s valuations remain elevated, and earnings may not recover anytime soon. He further said if retail investors lose patience and domestic flows abate, there could be a significant selloff, especially in small and mid-caps. Here is an edited excerpt of the interview:

After an 11 per cent fall from its peak, is the Nifty 50 ripe for a solid bounce?

Given the various factors at play, predicting market movements in the short run is futile.

What we can do at best is try and understand how these factors might play out.

From a fundamental perspective, key factors for the fall have been disappointing earnings growth, which was below expectations built into fairly punchy valuations.

Technical factors have been relentless FII (foreign institutional investor) selling triggered by the US dollar rallying on the back of rising US treasury yields, somewhat offset by the resilience of domestic flows.

Going forward, valuations remain elevated, and earnings aren’t likely to recover anytime soon.

If the US dollar tops out, we might see some abatement and possibly a reversal in FII flows. On the other hand, if retail investors lose patience and domestic flows abate, we might see significant downsides, especially in small and mid-caps, which domestic flows have so far supported.

What are the key risks that we should not overlook?

As highlighted above, key risks from a fundamental perspective are earnings growth falling short of expectations embedded in lofty valuations, sustained strength in the US dollar resulting in continued FII selling, and potentially domestic investors losing their nerve, resulting in slowing domestic flows.

How do you see the Q3 earnings compared to the last few quarters? What were some notable upgrades and downgrades?

Q3 earnings have been marginally better than the last two quarters, which were marred by a significant decline in govt capex, elections and weather.

Government capital expenditure (capex) seems to have recovered in Q3.

But compared to expectations as indicated by valuations, earnings continue to disappoint.

Consumer staples, autos, and building materials are notable disappointments, while speciality chemicals seem to recover smartly.

Considering the current market structure, what should investors emphasize—value or momentum?

Momentum is clearly breaking. There aren’t too many pockets of value left in the market. Given the macro environment, investors should focus on quality—strong balance sheets, clean accounting and governance, and sustainable competitive advantages.

What’s your take on the Indian economy? Is the worst behind?

Whilst long-term macroeconomic fundamentals remain strong, with fiscal consolidation, inflation somewhat benign, bank balance sheets strong, and corporate leverage low, there is clearly a cyclical slowdown driven by slowing public capex and slightly levered households, resulting in slowing consumption, especially middle-class consumption. 

With the budget boost to the latter and rural consumption looking up, a consumption recovery, which could help private sector capex, should eventually make up for the slowing public capex. 

But we are perhaps a couple of quarters away from that happening. It doesn’t help that the global macro is exacerbating the situation, as a strong dollar resulting in FII and FDI outflows affects the currency and domestic liquidity just when the economy is slowing down. 

The RBI could boost liquidity at the expense of the currency, which, on balance, could be a reasonably good outcome for the economy in the near term.

Do you see value in the banking stocks?

Banking is perhaps the only reasonably priced sector from an absolute valuation perspective. 

Asset quality and margins have risen, albeit amidst slowing credit growth. If liquidity conditions improve thanks to the RBI, we might even see growth recover. 

All this, amidst still reasonable valuations, even more so compared to other sectors, makes it attractively positioned.

Why is the power sector underperforming? Is there more pain in the offing?

It is one of the sectors where narratives went overboard, resulting in unrealistic growth expectations built into valuations. Despite the correction, valuations are still on the higher side, suggesting more downside risks.

Are green shoots emerging in the Indian tech sector?

Yes, there are early signs of discretionary spending recovering. American banks, the sector’s largest customer base, have shown good earnings, which bodes well for discretionary spending coming back. 

Furthermore, Deepseek could drive faster adoption of GenAI among enterprises, boosting demand visibility for the sector. 

However, valuations factor in much of that. On balance, demand visibility and the rupee’s weakness make a case for tech exposure.

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Disclaimer: The views and recommendations above are those of individual analysts, experts, and brokerage firms, not Mint. We advise investors to consult certified experts before making any investment decisions.