Indian multi-asset portfolio allocation

Are Indian equities now overvalued?

09 October 2023

Narayan Shroff, India, Director-Investments

Please note: All data referenced in this article is sourced from Bloomberg unless otherwise stated and is accurate at the time of publishing.

Key points

  • With the Indian economy growing faster than its peers, the average age of its population younger than in other large markets and more companies basing supply chains in the country, does this really bode well for long-term returns in the nation’s financial markets?   
  • Despite broad-based returns of over 7% in domestic equities this year, a significant sell-off seems a low risk in the short term. Larger companies appear to offer better prospects than smaller ones in the short term, given their recent underperformance. However, downgrades in the already weak global growth outlook could hit Indian earnings 
  • While the Reserve Bank of India continues to adopt a hawkish policy stance, interest rates appear to have peaked. Rate cuts could follow in the second half of next year, supporting local bond markets 
  • With much uncertainty over the path of inflation and growth both domestically and elsewhere, alternative assets such as gold can help to diversify portfolios and manage risk in such times  

Up until now, the messaging around India remaining the fastest-growing major economy for some time has been well received. This has been well supported by prudent monetary and fiscal policies, as well as several reforms that could keep domestic gross domestic product (GDP) growth at current or even higher levels.

India enjoys several advantages over peers. It has a young, productive, population. For instance, the population’s average age of 28.7 years, compared with 38.4 in China, 38.5 in the US and 47.8 in Germany1. An influx of companies looking to set up supply chains in the country, rather than China, partly reflects the demographical advantage.  

Increasing use of technology in the public and private sectors is also aiding productivity. India has had many economic false dawns before. Is this time any different? 

All engines firing 

The Indian economy continues to outperform its peers. August’s economic growth in eight core infrastructure sectors rose to a 14-month high, at 12.1%. This, alongside other high-frequency data, like promising auto output, goods and services tax, an online tax-filing system (known as e-way bills) and rail freight, means that the 25-month run of expansion shows little sign of ending soon.

In the country’s services sector, August’s purchasing managers’ index (PMI) fell to 60.1 (still above the 50 level that indicates economic expansion), after hitting a 13-year high of 62.3 in July. However, the seasonally-adjusted services PMI business activity index roared to one of the strongest output levels seen in 13 years. The surge in activity was supported by upbeat demand conditions, in the face of tough inflationary pressures and a patchy monsoon season.  

Meanwhile, August’s manufacturing PMI also hit a three-month high at 58.6. With the amount of monsoon rains finishing within the normal band in September, the outlook for the sowing season for crops is positive. October’s festival season should also aid growth.

External flows and oil prices 

Weak global growth in the developed world and China was responsible for India’s current account deficit (CAD) widening in the second quarter, as the value of goods exports shrank by much more than the import equivalent. More outbound remittances, and a lower services account surplus, also contributed to higher net exports. That said, foreign fund inflows, largely due to an uptick in foreign portfolio investment and banking capital inflows, meant that capital account flows financed the CAD.

If oil prices remain above $90 a barrel, the rise in the CAD will probably be better than expected. That said, financing requirements are unlikely to be a concern, given the positive effects of India's impending inclusion in a JPMorgan bond index next year, likely prompting some front-loading of debt investment inflows in 2023. 

Oil price volatility will be a key factor in the outlook for the economy. The government is trying to dampen the effect of high energy costs by hikes in excise duty and price cuts to stabilise fuel prices. Another factor influencing prospects is job growth, especially in the rural and services sectors, consistent with a pick-up in private capital expenditure and the government’s actions to support its re-election at general elections in 2024. 


Unlike many other financial markets, broad-based growth can be seen in Indian equities, with the Nifty50 index of the 50 highest-valued local listed companies having produced returns of over 7% in 2023. Indeed, both the mid- and small-cap indices have shot up by more than 30% over the same period (albeit history is never a guarantee of future performance). 

Over a three-year spell, the Nifty50 has grown by a compound annual rate of around 20%, while earnings per share growth averaged around 22%, with a current trailing price-to-earnings multiple (P/E ratio) of 23 times (x) or so. The Nifty50 now trades close to its 10-year average of 22.5x, while a dividend yield of 1.39% is a smidgen above the 10-year average of 1.34%. 

On a forward basis, the market is pricing in roughly 18% earnings growth for next 12 months, above trailing 12-month EPS growth of 16.2%. As such, the Nifty50 seems fairly valued at current levels, though downgrades in global output could hit Indian earnings expansion.  

The longer-term view

The prospects for Indian large-cap equities appear rosier than those for mid- and small-cap stocks, given the latter’s strong outperformance of late. At the sector level, domestic cyclicals like infrastructure, capital goods, financials and consumer discretionary appeal, while cyclicals like metals and technology equities may struggle more.  

Despite foreign outflows of money from Indian equity markets in September, after six-straight months of inflows, the Nifty50 was up 2% that month, supported by strong domestic flows. We remain neutral on equities. From a risk-reward perspective, stocks are less attractive from a tactical perspective due to higher valuations and several positives being already priced in. That said, economic growth, investor sentiment, net investor flows and momentum remain encouraging.


A cocktail of elevated US interest rates, that are anticipated to be held for longer than many expected, and high fuel prices create headwinds for Indian bond investors. Whether or not healthy liquidity levels and manageable borrowings, along with the prospect of weaker local inflation, can compensate for the headwinds remains to be seen. 

Along with many other central banks, the Reserve Bank of India (RBI) is likely to persist with its moderately hawkish stance into next year in the fight to tame inflation. Though rates appear to have peaked, the central bank will probably start cutting rates not before the third-quarter of 2024. On the liquidity front, the RBI will probably retain sufficient quantities so as to support credit creation, especially going into the festive season. 

As mentioned earlier, JPMorgan has decided to include Indian government bonds into its government bond emerging market benchmark index from next year. The inclusion should be particularly positive from a demand and structural perspective.

On the supply side, government borrowing of 6.55 trillion rupees in the second half of fiscal year 2023 is in line with that announced post budget. This should keep the bond yields in check and near current elevated levels, backed by supply. 

Our positive medium- to long-term investment view for Indian bonds rests on three factors: higher accruals that investors may lock into, roll-down benefits for investments in the 5-10-year maturity segment of the market, and potential capital gains when rates start to fall. 

Alternative assets as a diversifier 

With much uncertainty on the outlook for inflation, interest rates and global growth, diversification is particularly important in managing portfolio risk levels. Among alternative assets, gold seems particularly suited to aiding diversification at such times, even if cross-asset correlations globally have recently diverged from their long-term historical average. In addition, the yellow metal is likely to benefit from weaker real yields, especially in US. For Indian investors, any rupee weakness against the US dollar should add to the attraction of holding this commodity.

For discerning investors, private credit can provide a good risk premium. Furthermore, the asset class tends to perform well at times of improving macroeconomic and balance-sheet cycles, as is currently being seen in India. 


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