Is bottom-up investment strategy key to unlocking growth in today's market? Krishnan VR explains

Economic Times

28-05-2025

Krishnan VR of Marcellus Investment Managers says given the current market uncertainty, investors are advised to concentrate on bottoms-up stock analysis, particularly within the mid and small-cap segments. Emphasis should be placed on identifying companies with strong growth potential, as growth is becoming increasingly scarce. Companies demonstrating consistent earnings growth over the medium term present lower valuation risks.
Firstly, help us with your outlook on the markets because it seems like that the markets have seemed to be climbing the wall of worry, especially with respect to the tariff tantrum and the slower growth that was anticipated earlier. But from here on, how do you see the Indian markets performing and where is the tilt? Is it still with the largecaps or do you believe that now SMIDs are also offering some opportunity?
Krishnan VR: In terms of the Q4 earnings season, we looked at the earnings performance of companies and roughly when you look at the earnings growth of Nifty 50 companies, it has been in mid-single digits. Bulk of the earnings outperformance seems to have come from banks and downstream oil marketing companies. And if you remove these two sectors, broadly earnings growth has kind of just met expectations. I would not go to sector specific commentary, we can discuss it in detail, but coming to valuations, again what I would say is when you look at aggregate indices whether it is mid and smallcap indices, when you look at the aggregate valuation, again Indian small and midcap indices are trading above long-term averages.
You might argue that the valuations are high not only with respect to their own history, but also compared to largecaps or with mid and smallcap indices in other emerging markets which have similar growth outlook.Even if you look at things like the one-year forward price to earnings or a valuation ratio for an average stock, within BSE 500, at least per our calculation, today this number is somewhere around 33 times which is higher than historical standards and which gives an idea about the breadth of the extended valuation across stocks. So, when the recent rally in the last one or two months within mid and smallcap indices is put in the backdrop of these extended valuation, the one comment you could make is maybe the market is expecting some improvement in earnings growth for FY26, FY27, backed by an improving macro. But when I look at these valuations, it suggests that the wall of worry or some of the uncertainties around the ongoing tariff negotiations with the US, has not completely been priced in and there are also other structural issues. For example, the low wage growth in India which is impacting urban consumption as we know it. When I look at the growth outlook and some of these uncertainties and put this together against a backdrop of extended valuation, it is a worry.
Given the current volatility that we have been seeing on the back of global trends, help us with some factors that we should be steering clear of and how to navigate this market?
Krishnan VR: Obviously, every market is different and one can look at some points in history, but history seldom repeats but it often rhymes. So, given the uncertainty, I would strongly suggest that investors again focus on bottoms-up stories. Even when I talked about the mid and smallcap valuations, remember that mid and smallcap stocks or the mid and smallcap space in India is a very wide space. So, all the stocks excluding the top 100 stocks. In some cases, there are very long growth runways and obviously valuation should be seen in context of both profitability and valuation. So, look at bottoms-up stories, be stock specific as much as possible and at the same time focus on growth because we are at this point in the cycle where growth is going to become more and more scarce. And when growth becomes scarce, the companies which can deliver growth in whatever ways – it could be certainties of growth, it could be the longevity of the growth – become that much more valuable. So, even when you look at a valuation, there is a lesser valuation risk for a company which can deliver earnings growth over the next two-three years or even in the medium term. So, one strategy could be to focus on companies in a very bottoms-up way and on those which can deliver outstanding earnings growth.
In your quant research you wish to highlight some sectors which tick many of those check boxes. Since people are finding it a little hard to find new ideas in this market construct, given the market correction and the tepidness, can you help us highlight some of the sectors that are looking good or rather building on some bit of momentum? Sectorally, where are you finding some tilt?
Krishnan VR: We like financial services as such and because financial services is not just lending, not just banks and NBFCs, there is also wealth management, RTAs, and insurance. When you look at the wider financial services in India, whether it is insurance, life insurance, RTAs, wealth management, etc, they have very long growth runways. Stocks within these sectors have secular growth stories and even when you look at things like momentum, the earnings growth momentum has been pretty good.
Estimates, etc, have been revised upwards over the last two-three years. So, when you look at it both from top-down perspective and even from a bottoms-up perspective, the broader financial services is definitely attractive, but our investing style is sector agnostic. We are looking at clean, well run, well governed companies with low debt, with the return on capital above cost of capital. That tends to be our criteria and you can find such companies in many sectors. We do not tend to be very top-down or take sector specific calls, but the broader financial services definitely look attractive.
I also want your view on the earnings season. Q4 is almost over. Most of the Q4 earnings are out and FY26 and FY27 is when we can start seeing improvement. But when exactly in FY26 do you see improvement coming in? Could it be the next quarter like the Q2 or in the second half of the year? Also, do you think conditions like the early onset of monsoon could impact earnings in FY26?
Krishnan VR: In terms of the earnings growth, the consensus is for baking in close to high teen earning growth for Nifty and this is over FY26 and FY27. Coming to your question on how this might pan out, at least for us, we see there could be two likely triggers for upgrades if at all. One could be, for example, the lower crude oil prices. India is a net importer of crude. For a lot of companies, their cost of goods or the cost of raw materials is linked to crude oil prices one way or the other. So, there would be some benefit on the margin if the crude oil prices stay where they are or even go lower. The other trigger for upgrading would be if we see some green shoots in urban demand and in my view that could be in the second half of the year if at all because we have just seen inflation that has come down. If you exclude commodities, gold, etc, the core CPI is down even below 4% now. With inflation easing and the lower personal tax outgo under the new tax regime, that would also be something that could give a fillip to urban demand and, of course, we already know that rural demand has fared much better in the last earning season in 4Q versus urban and if there is an early onset of monsoon, then it helps rural demand also to that extent. So, yes, I mean, we might see a bigger impact on the company's earnings if all these factors play out in the second half rather than the first half.