India's high valuation premium to other EMs won't return easily: Amish Shah

Even as Indian equities have corrected, valuations are only back to long-term averages and still expensive relative to other emerging markets (EMs), says Amish Shah, head of India Research at BofA Securities. Rising geopolitical tensions and a surge in commodity prices have led the global brokerage to sharply downgrade India’s earnings outlook. Its base case still sees the Nifty gaining about 15 per cent to 26,200 by December 2026, but risks remain skewed to the downside — with a potential 8 per cent decline in a bear case and up to 23 per cent in a worst-case scenario. In an interview with Samie Modak in Mumbai, Shah said any further market upside is likely to be earnings-led rather than driven by valuation expansion. Edited excerpts:  You’ve cut Nifty earnings growth from 14 to 11 per cent, and now to 8 per cent. Why such a sharp downgrade?  I would argue that even our earlier cut — from 14 to 11 per cent — was conservative and done quite early, almost immediately after the conflict began. Since then, some of the risks we flagged have actually played out. Crude prices have moved up and are unlikely to go back to pre-conflict levels anytime soon.  Supply disruptions — whether in LNG or commodities like aluminium — will take time to normalise. So, input cost pressures are now real and visible across sectors.  On top of that, we are building in a 50 basis points (bps) rate hike by the Reserve Bank of India (RBI), because inflation will need to be controlled. When you put all of this together —commodities, inflation, and rates — it leads to lower earnings growth.   If earnings growth slows, does that call for a valuation de-rating?  Not necessarily. Markets are forward-looking. Our valuation framework is based on FY28 earnings, which we see as more normalised.  So, in that sense, we are not penalising the market for the weaker FY27 earnings.  There is still some indirect impact because FY28 growth comes off a lower base. But it is not an outsized hit to valuations.   Foreign investors have been selling relentlessly. Do you see that reversing?  There are two answers here. Yes, flows can improve once the conflict ends because the current selling is partly driven by shorting. That element will go away, and lower valuations could attract some inflows.  But even without the conflict, India does not stack up well in a relative sense. Other EMs offer far better growth-adjusted valuations.  For instance, South Korea is expected to deliver about 180 per cent earnings growth and trades at around 7 times price-to-earnings (P/E). Taiwan has about 35 per cent growth at 18 times. China offers roughly 14 per cent growth at 11 times.  India, on the other hand, is looking at 8–14 per cent growth but trades at around 19 times. So, from a global allocator’s perspective, India is relatively expensive.   Does that mean India’s valuation premium will shrink further?  The way we look at it, India is currently trading around its long-term average multiples.  Earlier, the market used to command a premium — plus one or two standard deviations — but that premium may not come back easily. However, unless you believe India will structurally undershoot its nominal GDP growth of around 11 per cent, there is no reason for it to trade below its long-term average either.  So, valuations may stabilise here, but the scope for multiple expansion is limited.   So what drives markets from here?  Simply put — earnings. We don’t see any valuation-led upside from here. Earlier, when we were working with 14 per cent earnings growth, we were effectively saying the market can compound at 14 per cent. Now, with lower earnings growth, market returns will also be correspondingly lower. All the upside is now earnings-led.   What do your downside scenarios suggest?  If you look at past events — Eurozone, taper tantrum, demonetisation, and so on — India’s valuations typically fall between the long-term average and minus one standard deviation. We are currently at the higher end of that band.  In a bear case, if valuations move to minus one standard deviation, that implies about 8 per cent downside.  The worst case would be if energy infrastructure is disrupted in a meaningful way. That would lead to a multi-year supply shock, lower growth, and lower valuations — resulting in a deeper correction.   Is this cycle different because of crude oil risks?  Crude is certainly an important factor because it impacts inflation, currency, and the fiscal position.  But ultimately, what matters for markets is how all of this translates into earnings. The trigger may differ, but the end result we focus on is earnings growth.   What changes have you made to your sectoral stance?  The biggest shift is in rate-sensitive sectors.  We were earlier positive on them, expecting rate cuts. Now, with inflation likely to stay elevated and rates expected to rise by 50 basis points, we have turned negative on non-banking financial institutions (NBFCs), passenger vehicles, and real estate.   What sectors do you prefer now?  Banks are a key beneficiary of higher rates, so we are positive there. We have also introduced a new theme around energy security. Given the geopolitical backdrop, countries will focus more on domestic energy sources. For India, that means areas like biofuels and the electricity value chain—generation, transmission, and equipment.   We are also positive premium consumption, pharma, upstream energy, aluminium, defence, power-related capex  Meanwhile, are are negative mass consumption, steel, downstream energy, and IT (from a long-term perspective)  IT, we think it can outperform in the short term because of rupee depreciation and earnings visibility, but structurally, AI disruption remains a concern.  What about midcaps and smallcaps?  Earlier, we were clearly underweight. Now, we see selective opportunities, especially in themes like defence and energy security. However, there is no broad valuation comfort.   Largecaps—especially within the Nifty—remain relatively more attractive.