Are markets losing steam? Kotak Institutional Equities says it’s a struggle to find investment ideas as valuations are not so fair

• Correction in consumption stocks likely as revenue growth could moderate in 2HFY24 once pricing benefits fade.
• While the valuations of outsourcing sectors appear reasonable compared to history, companies in the sector face both short- and medium-term challenges.
• Foreign capital flows over the last two months largely on account of investments by passive funds due to MSCI rebalancing.

The sharp rally in the market has left stock pickers in a quandary as they are struggling to find sectors and stocks that are worth buying. Two months can be a long time in the market. After struggling for months, the rally in stocks in the last two months has made the going difficult for equity strategists and fund houses. Equity strategists say that they are unable to fathom why stocks have been rallying in the last few months. The risks to consumption, especially in rural markets, slowing further are real and that the markets are not currently factoring in the impact that global disruptions can have on India.

In its strategy note, Kotak Institutional Equities says, “We struggle to find ideas in the consumption, investment and outsourcing sectors after the sharp run-up in several of our favored sectors and stocks in the past two months. The BFSI sector is the only sector that offers value although even insurance stocks have rallied in the past few days.”

Kotak is not alone in its assessment. BNP Paribas is also underweight on the FMCG sector and expects correction. While correction in raw material prices could come to the rescue in the first half of FY24, in 2HFY24 BNP Paribas expects revenue growth to moderate as pricing benefits would fade and growth would have to be volume-led. In addition, El Nino could be a risk and may derail a rural recovery.

The secular rally across sectors in the last two months has resulted in rich valuations for the consumption and investment sectors primarily. Most stocks in these sectors are trading at close to or above 12-month fair values, says Kotak Institutional Equities. The strategy report further says: “Valuations of outsourcing sectors may look reasonable versus history but the IT services sector faces both short- and medium-term challenges. Valuations of most BFSI stocks are still attractive despite the recent run-up in insurance stocks.”

Why then are the markets rallying, one should ask. After selling India heavily last year, foreign investors have made a comeback and they have helped keep the flag flying high. Foreign portfolio investors who have pumped in Rs 43,000 crore in Indian equities since the start of 2023. In the first two weeks of June, FPIs have invested Rs 16400 crore in stocks. Despite this, the valuations of benchmarks have remained in the fair value zone. Another reason for the benchmark valuation remaining fair is also because some of the heavyweights have not participated in the rally at all.

On a headline basis, Indian equities do not look too expensive, but specific stocks are trading at expensive valuations. One of the arguments that equity strategists give is that the money flowing into India is largely passive and, therefore, not much should be read into these flows. Stocks have been rallying on optimism and not necessarily fundamentals. A lot of small and midcap companies in the consumption, investment and financial sectors, but market experts believe that the risks to their earnings and growth are not adequately priced in.

Says Kotak, “We struggle to understand the rally in smaller consumption and IT services stocks given continued weak domestic demand (valid for consumption sectors) and weakening global (valid for IT services) demand.”


Kotak Institutional Equities is cautious while analysing capital flows into India as it is not a secular return of the prodigal FPIs. In a report, Kotak says, “Equity flows show that the bulk of inflows into India in 2023 could be passive (ETF) flows. Net ETF inflows stood at $3.3 bn in 4MCY23 versus cumulative net FPI inflows of $6 bn in CYTD23. We assume the trend of passive flows would have continued in May and June, given the large net FPI inflows (around US$400 mn) on the MSCI rebalancing day (May 31). Passive inflows would be significantly higher than this figure given the US$3 bn of gross purchases by FPIs on May 31 alone. We assume ‘smart’ (active) investors would have bought ahead of rebalancing day and sold on rebalancing day.”