'Quality as a factor is now far more widespread'

Summary: After a sharp correction and a year of underperformance, are Indian equities finally reasonable? Or do pockets of excess still remain? Shreyash Devalkar explains how he is navigating valuations, mid- and small-cap risks and why “quality” alone is no longer enough in this market. After a sharp correction and a year of global underperformance, Shreyash Devalkar believes Indian equities have moved to a more balanced, though still selective, valuation phase. The Head of Equity at Axis Mutual Fund, Devalkar brings over two decades of experience in Indian equities and currently oversees six schemes with assets of around Rs 1.21 lakh crore. He joined Axis AMC in 2016 and was elevated to his current role in 2023, after earlier stints at BNP Paribas AMC and IDFC. Devalkar notes that while headline valuations have eased and India’s premium to emerging markets has moderated, pockets of excess remain, particularly in mid- and small-cap stocks. In a market that has become far more valuation-sensitive, he argues that quality alone is no longer sufficient. With growth broadening across sectors and elevated multiples becoming harder to justify, his focus has shifted to growth at a reasonable price, tighter portfolio concentration and selective capital allocation. In this conversation, he explains how valuation discipline and sector choices are shaping portfolio outcomes in a more demanding market phase. After the recent correction, some valuation excesses have eased, but markets still don’t look cheap. How are you reading valuations and the earnings outlook now, and how does that influence your portfolio positioning? As far as valuations are concerned, the headline valuations of the Nifty have corrected. It is well established that India’s underperformance relative to the world, both emerging and developed markets, has been quite significant over the last calendar year. We have underperformed by almost 20 per cent or more in certain markets, especially in US dollar terms. With that, our valuation premium compared to emerging markets, which had reached nearly 100 per cent at certain points during the post-Covid cycle, has now come down to closer to 60 per cent, which is broadly in line with the 10-year mean. From that point of view, headline valuations look reasonable. However, if you drill down further into valuations, they are still slightly expensive on both the mid-cap and small-cap sides. Historically, the Nifty Midcap one-year forward P/E is still almost 1.5 to 2 standard deviations above its historical mean. A similar observation holds true for small caps as well. As you rightly asked about growth and base effects, when we look at valuations and drill down further, we analyse two aspects: growth and valuation re-rating. When I talk about re-rating, I am referring to the multiple compared to pre-Covid levels, which would be somewhere around 2019. What we observe is that sectors which have not shown growth or have failed to demonstrate meaningfu