What fuelled the rally? Recommended portfolio by KIE amid market volatility

The BFSI sector has been a large contributor to the rally of the large-cap. indices in the past month

The Indian stock market has been experiencing a peculiar rally in recent weeks, driven by a combination of solid fundamentals and shifting investor sentiment. The rally appears to be a "barbell" market, said Kotak Institutional Equities where two distinct trends are emerging: strong performance in large-cap stocks, especially in the banking and financial sectors (BFSI), and a rebound in mid- and small-cap stocks, driven largely by “narrative” stocks.

 

"The recent rally in the market seems to be a combination of (1) fundamentals and (2) sentiment. On the one hand, the rally in BFSI stocks has driven the rally in large-cap. indices while the revival in ‘narrative’ stocks has largely driven the rally in mid- and small-cap. indices. We do not find value in most parts of the market and earnings have seen downgrades in the past fortnight," said Sanjeev Prasad of Kotak Institutional Equities.

 

 

The Drivers Behind the Rally

The rally has been an interesting blend of different factors:

 

BFSI Stocks Leading the Large-Cap Surge:

Banks, non-banking financial companies (NBFCs), and insurance stocks have been key drivers behind the rally in large-cap indices. Despite concerns around slower credit growth and lower profit margins for private banks, investors seem to have found value in these stocks. However, experts at Kotak point out that the potential for significant price increases in these stocks is limited, as they are already priced reasonably.

 

Mid- and Small-Cap Stocks Find New Life:

On the other hand, mid- and small-cap stocks have been largely led by what are called "narrative" stocks—companies that have seen their prices drop sharply in the last 6-9 months but are now making a comeback. While some investors are rediscovering these companies, others are wary, pointing to the disconnect between their market valuations and their actual financial performance. For example, stocks like IRFC are trading at high multiples compared to more established banks like Bank of Baroda and Punjab National Bank, raising concerns about overvaluation.

 

Investor Sentiment Shifts:

Alongside these developments, the reduction in foreign portfolio investor (FPI) selling in the last month and some inflows over the past week have added to the positive sentiment. The so-called “Trump trade,” a strategy that had seen global investors betting on the U.S., has also lost its appeal, leading many to refocus their investments on emerging markets (EMs), including India.

 

Earnings Downgrades and Caution Ahead

Despite the recent rally, there are signs of caution. Over the last two weeks, earnings estimates have been revised downward for several sectors:

 

Consumer Staples: Demand in the sector has remained weak, leading to lower earnings projections.

 

IT Services: With uncertainty about future demand, the outlook for IT companies has dimmed.

 

Oil, Gas & Consumables: Lower oil prices have affected earnings expectations for energy-related stocks.

 

These earnings downgrades suggest that the rally might be fragile, with the possibility of further cuts in earnings expectations in the coming months. As we head into 4QFY25 earnings reports, the market will be paying close attention to how companies perform and whether the optimism can hold.

 

While the overall market momentum seems positive, experts at Kotak Institutional Equities caution that the rally is not uniform across sectors, and many parts of the market still appear overvalued. Investors may need to “ditch some deadweights” or reconsider their positions in stocks that aren’t likely to see strong growth in the near future. As we move into the next quarter, much will depend on how companies perform and whether the recent uptick in mid- and small-cap stocks proves to be sustainable.

 

In the longer term, the outlook remains somewhat positive, with analysts forecasting steady profit growth for major indices, including the Nifty-50, over the next few years. However, with earnings revisions happening and some uncertainty in key sectors, investors should stay alert and be prepared for potential bumps ahead.

 

Below is the recommended portfolio by Kotak Institutional Equities: 

 

Kotak has a combined portfolio now for large-caps and mid- caps.   KIE prefers stocks with compounding in earnings/book and lower risks of derating in multiples 

 

"We still do not have a mid-cap. portfolio, as we do not find much value in most parts of the mid- cap. space other than the BFSI sector. We have plentiful exposure to the BFSI sector through the large- cap. names. We have added DLPL to the hitherto large-cap. portfolio given more options from the mid- cap. space and limited options in the large-cap. space," said Anindya Bhowmik of Kotak Institutional Equities. 

Notes:

(a) The model portfolio is not advise or recommendation or a suggestion for buying or selling securities as shown. It is only an indicative portfolio to show how a portfolio can be built. Please consult an expert to build your portfolio.

 

Source: Kotak Institutional Equities estimates 

Disclosure: Entities controlled by the Kotak family have a significant holding in Business Standard Pvt Ltd