PSU Banks' Upside
According to JPMorgan's Rajiv Batra, despite the recent fluctuations, PSU banks remain a favorable tactical investment choice. This viewpoint is underpinned
by robust credit expansion, enhancements in technology, and ongoing policy support, all of which are anticipated to drive a re-rating. Even amidst the prevailing market dynamics, the strategic investment potential of PSU banks remains intact, presenting an appealing prospect for investors. The investment case is reinforced by the belief that these entities will gain from India's economic growth and associated reforms.
Factors Behind Recovery
Several factors are crucial for a reversal in the Foreign Institutional Investor (FII) outflow trend. The first is a resurgence in earnings growth. As earnings improve, India's Price-to-Earnings Growth (PEG) ratio is expected to fall below the investable threshold of 2x. Clear policy tailwinds, encompassing monetary easing, fiscal support, and structural reforms like labor-law consolidation, are vital. These elements collectively lay the foundation for a positive shift in the market's trajectory, attracting investors' interest and fostering a conducive environment for financial growth. A combination of these factors is anticipated to spur a reassessment of investment strategies, potentially leading to increased investments in the Indian market.
Structural Drivers Examined
Three primary structural drivers are poised to benefit PSU lenders, even without the catalyst of Foreign Direct Investment (FDI). First, there's a turning point anticipated in India's loan-growth cycle. Secondly, the potential for Net Interest Margin (NIM) expansion is seen as a positive indicator. The third factor involves attractive valuations compared to the 5- and 10-year averages. Moreover, major PSU banks continue to build their deposit share and benefit from a low cost of capital. If loan growth accelerates, the outlook for PSU banks becomes even more promising. Batra expects valuation rerating in the coming three years as digital adoption improves, loan growth broadens and deregulation—such as RBI’s discussion on M&A financing—opens new revenue streams for state-owned lenders.
Midcaps' Justification
Midcap stocks, while trading at rich valuations, are presently justified due to their earnings potential. The market is witnessing a phase where earnings are supporting these premiums, enabling investors to still find value in this segment. The earnings outlook for 2027 projects a double-digit growth trajectory, which provides a positive underpinning for the premium valuations. This growth is expected to sustain the current valuation levels, ensuring that midcaps continue to offer attractive investment opportunities. This is supported by the momentum and the projected earnings growth, making midcaps a compelling option for investment portfolios.
FIIs' Stance Shift
Foreign Institutional Investors (FIIs) are currently cautious, navigating global volatility influenced by rate-cut expectations, Japan's bond-market moves, and policy stagnation in November. This cautious stance has led to broad profit-taking across emerging markets, not solely in India. However, there's a possibility of a shift in their stance, with potential re-evaluation. India has underperformed emerging markets by almost 20% this year. With earnings turning around—Q2 earnings grew 8–9%—and GDP momentum holding strong, Batra believes global investors may move back into India as they rebuild portfolios in early 2026. This potential shift suggests a positive outlook for the Indian market.
