“All dressed up and nowhere to go”—well, that’s how Sanjeev Prasad, MD and Co-Head, Kotak Institutional Equities, one of the first to warn about the small cap bubbles, calls Indian markets at the moment. In his recent report, he expects the markets to be “rangebound over the next few months” given the local and global headwinds. Most importantly, he believes that the small and midcaps still have a “long way to correct to their fair values.”
According to Kotak Institutional Equities, India’s “rich valuations in general, continued weakness in domestic consumption and investment demand and global geopolitical and macroeconomic uncertainty,” are the key worries That said, they expect the large caps to find support from “continued optimism among investors about India’s long-term growth prospects and lower interest rates.”
Kotak’s big worry in small and midcaps
Kotak Institutional Equities highlighted that smallcaps continue to trade at a large premium to large caps. A detailed analysis of the 1-year forward P/E multiple of the Nifty 50 Index and the Nifty Smallcap 100 Index clearly points to this gap in valuation. Even midcaps are trading at a significant premium despite recent derating. Most midcap consumption stocks are trading at expensive valuations. According to Sanjeev Prasad, the valuations of the market and most sectors and stocks are expensive and of “many ‘narrative’ stocks bizarre after the sharp recovery in the market in the past 4-5 weeks. The market has gone from despair to relief to euphoria in about 5-6 weeks (early April to middle of May), tracking the changes in the US’ import tariff policy.” The announcement of reciprocal tariffs was on April 2 and suspension of reciprocal tariffs was announced for 90 days starting April 9.
The rich valuation and low growth double blow
Sanjeev Prasad of Kotak Institutional Equities highlighted that the “Indian market remains blissfully ignorant of the reality of a sluggish domestic outlook with likely continued weakness in consumption demand and slowdown in investment demand.”
He believes that the other key worry for India is the “challenged global macro-environment with likely low growth and possibly high inflation.” Valuations of the Indian market and of “most sectors and stocks are quite rich and well above fair values,” according to Kotak Institutional Equities. They believe that “investors, both institutional and retail, are yet to reconcile with the new reality.”
Short-term challenges to profitability
The Kotak report pointed out that the “short-term growth and profitability challenges in several parts of the Indian market, especially consumption, parts of investment, and outsourcing (IT services),” is a big risk. This, along with “medium-term growth and profitability issues in several sectors,” is a source of worry. The profitability risk in many sectors is due to
-Low volume growth
-Ongoing and potential disruptions
This is what is resulting in what they term as “low visibility on hoped-for recovery.”
What’s working for India?
That said, it is not all gloom and doom for India. They see a few positives for the Indian economy. These include
-Lower interest rates
-Low commodity prices
They believe these factors can help boost government and household savings. Nonetheless, the Kotak report ruled out meaningful recovery prospects, “we rule out a strong recovery in the economy” due to challenges to consumption demand from inadequate creation of good-quality jobs as well as a slowdown in investment demand, weaker residential real estate sales, and no signs of recovery in private capex.
According to them, the “headwinds to exports/outsourcing from an uncertain global environment and global growth slowdown,” are also expected to impact overall dynamics.
Q4FY25 operating performance was fairly muted
Kotak also highlighted that the Q4FY25 operating performance of most sectors and companies and muted commentary from managements “preclude a strong recovery in credit, consumption, or investment demand in the near term.” Bank credit grew 11% , margins for capital goods moderated, and consumer staples companies reported low-to-mid-single-digit volume growth. According to Kotak Institutional Equities all the above highlight the muted operational performance