'Earnings growth concentrated in pockets calls for stock-specific bets'

Ajay Khandelwal says valuations have moderated and earnings remain resilient, with manufacturing, pharma, healthcare and capital markets among his preferred sectors

The scope for another broad-based correction from current levels appears limited, although near-term volatility cannot be ruled out, says Ajay Khandelwal, head of equity at Motilal Oswal Mutual Fund. In an email interaction with Abhishek Kumar, Khandelwal says his current focus is on structural themes where earnings growth is strong and visible. Edited excerpts:

 

With West Asia tensions showing no signs of abating and oil prices remaining elevated, have Indian equities factored in the risks, or is there more room for further correction?

 

Indian equities have undergone nearly two years of time and price correction, underperforming global peers. Geopolitical tensions, particularly the West Asia conflict, and elevated crude oil prices have further weighed on market sentiment over the past six months.

 

A prolonged period of high crude oil prices could put pressure on corporate margins, particularly in oil-sensitive sectors. However, the impact of elevated prices and supply disruptions remained relatively limited in the first half of 2026-27 (FY27).

 

Meanwhile, valuations have derated from their 2024 peaks and are now below their long-period averages, while earnings have remained resilient. Near-term volatility cannot be ruled out, but the scope for another broad-based correction from current levels appears limited, except for further adverse developments or a material deterioration in earnings.

 

What are the key triggers to watch out for that could add to the pressure on Indian equities or change the market’s course from here?

 

Key triggers include geopolitical developments and crude oil prices, which could affect inflation, corporate margins and the currency. Global interest rates and foreign institutional investor flows will remain important for market liquidity, while a strong initial public offering pipeline could add to primary market supply.

 

Globally, any reversal in the artificial intelligence (AI)-led investment theme could redirect capital towards emerging markets, including India. Domestically, the impact of El Niño on rural demand and the sustainability of the consumption recovery will be critical for earnings. The US midterm elections in November could also influence trade policy, bond yields, and global risk appetite.

 

Amid these macroeconomic headwinds, which sectors offer relative comfort, and which ones are you cautious about?

 

Our focus is on structural themes where earnings growth is strong and visible. Manufacturing, including defence, is supported by capital expenditure, indigenisation and rising order books, while pharmaceutical and healthcare offer durable domestic and global growth opportunities.

 

Capital markets and new-age technology, including AI-led business models, are benefiting from the financialisation of savings and digital adoption. Consumer discretionary and durables are supported by premiumisation and rising aspirations.

 

We remain cautious on staples, rural-facing and commodity-linked sectors, with an emphasis on stock selection.

 

Small and midcap (SMID) stocks have outperformed largecaps despite the uncertain environment. Is the trend sustainable?

 

SMIDs have outperformed largecaps, supported by stronger earnings growth. However, the sustainability of this trend will depend on how earnings growth evolves relative to market expectations and valuations.

 

Valuations of SMID stocks have corrected from their 2024 peaks and are now closer to their long-period averages. However, smallcaps continue to trade at a premium to historical averages, partly supported by their strong earnings growth.

 

Stock selection remains critical, as the earnings growth premium is concentrated in select sectors and companies.

 

Where do valuations stand currently, and which market capitalisation (mcap) segment is in the sweet spot in terms of earnings growth potential and valuations?

 

Amid the ongoing market correction, valuations across mcap segments have moderated from their respective peaks in 2024. Large, mid, and smallcap valuations have declined by 32 per cent, 36 per cent, and 10 per cent, respectively, from their peaks. The three segments are currently trading at price-to-earnings multiples of 17, 23.2, and 21.3, respectively.

 

Large and midcap stocks are trading at discounts of 19 per cent and 6 per cent, respectively, to their long-period averages, while smallcaps continue to trade at a 15 per cent premium.

 

Largecaps appear relatively attractive from a valuation perspective compared with SMID stocks. The valuation premium in the mid and smallcap segments reflects their comparatively stronger earnings growth profiles.

 

The second-quarter (July-September/Q2) earnings season is underway. What is your assessment of the results announced so far, and has the West Asia conflict started to weigh on corporate performance?

 

The Q2FY27 results announced so far point to a broad-based recovery in corporate earnings after two years of largely stagnant growth. Growth has been healthy across revenue, earnings before interest, tax, depreciation and amortisation, and profit, with several companies reporting results ahead of expectations. This points to an improvement in the earnings environment after a prolonged period of consolidation.

 

So far, the impact of the West Asia conflict on corporate performance has been limited and selective across sectors. Managements are monitoring raw material costs amid elevated crude oil prices, even as earnings momentum remains broad-based and demand trends have held up. The earnings outlook for sectors linked to domestic growth will depend on prevailing demand conditions and other relevant factors.