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India’s economic challenges may have troughed, and trends in some key parameters suggest that the outlook is improving: (1) GDP grew by 6.2% in 3QFY25, picking up from the 5.6% low of 2QFY25; (2) Food inflation and Brent crude prices have come off sharply. We expect RBI to continue its policy easing measures with another 25bps cut in repo rates in its Apr’25 meet; (3) Central government capex growth picked up in Dec’25 and Jan’25, and the outlook for FY26E is decent; and (4) Above-average reservoir levels, increasing rural wages, lower tax rates and an improving job market are positives for the urban and rural economies. Interestingly, FIIs might have sensed this and have bought Indian equities worth USD 3.8bn since 20^th Mar’25. We prefer large caps where 1-year forward P/E of 18.6x is not that far from the 25-year average of 17.2x. Midcaps and small caps are still not cheap, trading higher than +1SD. A key near-term worry is Trump’s likely announcements on 2^nd Apr’25, which, if too harsh on India, can cause another round of correction in the India market

What drove the market correction? The market correction was driven by the confluence of three factors: (1) Weak Indian economic data in 2QFY25, (2) Weak corporate earnings in 2Q and 3QFY25, and (3) FIIs finding more palatable valuations in China and attractive opportunities in the US. This drove FII outflows to the tune of USD 25.6bn over Oct’24 to Feb’25. DII inflows of USD 39.5bn counterbalanced these outflows, in the absence of which the market correction could have been sharper.

India’s economic challenges have troughed and FIIs may have sensed this: India’s economic challenges might have troughed and trends in some key metrics indicate that the outlook is improving: (1) GDP grew at 6.2% in 3QFY25, picking up from the 5.6% lows of 2QFY25; (2) Food inflation has come off sharply over the last few months to 3.8% in Feb’25. Brent crude has also corrected from the peak of USD 91/bbl in Apr’24 to USD 73/bbl currently. RBI is likely to continue its policy easing measures with another 25bps cut in repo rates in its Apr’25 meet; (3) Central government capex growth also picked up in Dec’25 and Jan’25, and the outlook for FY26E is decent; (4) Above-average reservoir levels, increasing rural wages, lower tax rates and an improving job market are big positives for the urban and rural economies. Interestingly, FIIs may have sensed this and have bought Indian equities worth USD 3.8bn since 20^th Mar’25.

Large cap valuations almost mean reverted; mid & small caps still not cheap: Since Sep’24, the Nifty50 has corrected ~11% from its top and valuations have come off from the peak of 23.0x to 18.6x 1-year forward (closer to the 25-year mean of 17.2x). We believe that the mean reversion story has broadly panned out, leaving limited room for a downside hereon. Bank Nifty valuations appear extremely attractive at <15-year mean. The margin of safety in the mid and small caps is limited, given valuations are higher than +1SD with limited room for earnings disappointment.

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