Why Indian markets are under pressure despite strong mid-cap earnings: Nilesh Shah explains

Indian markets are facing pressure from higher oil prices, US interest rates and a steady supply of IPOs. Yet the correction has not been uniform across market segments. While the Nifty 50 is down about 13% from its September 2024 high, mid caps are down only around 2%.

Nilesh Shah, Managing Director of Kotak Mahindra AMC, attributes much of this divergence to earnings growth.

Nifty 50 earnings growth was about 3% in FY25, improved to 10% in FY26 and stood at around 12% in the first quarter of FY27, Shah said in an interview with CNBC-TV18. Mid-cap earnings growth, meanwhile, was about 17% in FY25, around 27% in FY26 and more than 35% in the first quarter of FY27.

That difference in earnings performance, Shah said, is an important reason why the broader market has held up better than large caps.

“Stocks are slaves to earning power,” he said.

What is driving the market sell-off?

Shah identified three immediate factors behind the pressure on Indian equities: oil prices, US interest rates and IPO supply.

Oil prices have risen 3% since the previous day, according to Shah. At the same time, US interest rates are remaining above the 5% trajectory, with more rate hikes expected.

The third factor is the continuing supply of shares through IPOs.

“Supply is outpacing demand and pulling down prices,” Shah said.

But Shah does not see these factors as the whole story. The difference in earnings growth between large caps and the broader market has also shaped how different segments have performed.

Mid-cap earnings grew more than 35% in the first quarter of FY27, compared with about 12% for large caps. Small-cap earnings growth was about 22%, he said.

That has helped companies with stronger earnings growth hold up better even as the wider market faces pressure.

Why is the outlook still uncertain?

While recent earnings numbers have been encouraging, Shah sees several risks that could determine what happens next.

One is the US dollar and interest rates. Shah said capital flows could be affected if the dollar depreciates by more than the increase in income from higher US interest rates.

He also pointed to the risk of a reversal in the AI trade. A significant amount of AI spending is now being funded through leverage or borrowing, he said, and a reversal could increase outflows.

Oil remains another variable. Shah said its direction will depend on how negotiations between the US and Iran develop.

There are also domestic concerns. The monsoon is 12% below the historical long-term average, according to Shah, while water reserves are 4% below the 10-year average.

The rupee is facing pressure as well. Shah said the $140 billion raised through FCNR(B) deposits gives the Reserve Bank of India more room to manage the currency.

For Shah, the key positive is that earnings growth has so far remained strong. He expects second-quarter earnings to follow the first quarter's performance.

Could the Eighth Pay Commission help?

Shah sees the Eighth Pay Commission as another potential support for the economy.

Higher payouts to government employees could boost consumption, with the impact potentially extending to automobiles, alcohol and beverages, travel and tourism.

Shah pointed to the experience of the Sixth and Seventh Pay Commissions, which he said supported consumption in these areas.

The impact on consumer durables, however, could be more complicated.

Shah noted that a growing share of spending on products such as smartphones can benefit overseas manufacturers when the products are imported. By contrast, spending on locally made goods and services keeps more of the benefit within the domestic economy.

He said iPhone sales in India were equivalent to about half the turnover of the largest FMCG companies five or six years ago. Today, they are double that, according to Shah.

What policy support does Shah want?

Shah also sees a need for domestic policy measures to support the market.

He identified three areas.

The first is India's global perception. Shah argued that India has not always been able to present its economic and other achievements effectively to the global audience.

The second is the balance between the Securities Transaction Tax (STT) and capital gains. Shah said there is a need for greater equilibrium between the two.

The third is the impact of high-frequency trading on retail investors.

Shah cited SEBI data suggesting that retail speculative trades have resulted in losses of around ₹4 lakh crore over the past five years, or approximately ₹80,000 crore a year.

His argument is that if some of this money remained invested in the market instead of being lost through speculative trading, it could provide additional support to equities.

Where is Shah positioned?

Against this backdrop, Shah said Kotak Mahindra AMC is advising clients to be marginally overweight on mid caps, equal weight on large caps and marginally underweight on small caps.

The positioning reflects both earnings growth and valuations.

Mid-cap earnings have compounded at more than 20% for the past two-and-a-quarter years, Shah said. That supports the marginal overweight, although the strong earnings performance is already reflected in valuations.

Small-cap earnings growth is also around 20%, but valuations are relatively high, leading to the marginal underweight.

Large-cap earnings growth has been muted, but valuations are now slightly below historical levels. That has led to an equal-weight position.

Shah also stressed that the market is increasingly about individual companies rather than simply choosing an entire market segment.

“There are companies where earnings growth is coming in well. There are companies where the potential for earnings growth could be good,” he said.

For investors trying to make sense of the current correction, that distinction is central to Shah's view: external factors are creating pressure across the market, but differences in earnings growth and valuations are producing very different outcomes across individual companies and market segments.