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India’s equity market has shown significant growth over the past few years, delivering notable returns and attracting both domestic and international investors. However, 2024 has presented a more nuanced picture, with signs that the performance of recent years may not be sustainable indefinitely.

Market performance in 2024

The Indian equity market in 2024 has experienced bouts of volatility, reflecting a mix of economic, political, and global factors. While the market has seen periods of growth, it has also faced challenges that have tempered investor expectations. Slowing government spending led to a slower pace of GDP growth during the September quarter. The RBI revised its GDP growth projection for FY25 from 7.2% to 6.6% during the monetary policy meeting in December. Corporate earnings for the September quarter did not meet market expectations, leading to an exodus of foreign portfolio investors from Indian markets in recent months. High valuations of Indian markets relative to global peers have also been a cause of concern for investors during the year.

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Why investors should temper expectations going ahead

Several factors suggest that the performance of recent years may not continue indefinitely:

Global Economic Uncertainty: Global economic conditions, including inflationary pressures and geopolitical tensions, can impact investor sentiment and market performance. These factors might lead to increased volatility and lower returns.

Domestic Challenges: While India’s economic fundamentals remain strong, challenges such as rising input costs and subdued consumer demand in certain sectors can affect corporate profitability and market performance.

Market Cycles: Equity markets are inherently cyclical. Periods of high growth are often followed by corrections or periods of slower growth. Investors should be prepared for potential market downturns and not expect continuous high returns.

Way forward for markets in 2025

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India’s equity market has primarily been driven by an investment cycle rather than consumption. We firmly believe that India is on a multi-year capex cycle involving government, private, and household spending.The expected recovery in government capex during the second half of this fiscal year could benefit companies and sectors linked to the capex theme and might help bring back focus on the ongoing multiyear capex cycle in India.The real estate cycle is expected to continue its upward trend in the medium term. Corporate capital expenditure is anticipated to increase over the next two to three years, potentially leading to rise in earnings growth. This is expected to support equity markets. Additionally, new sectors are emerging within the economy, including through digitalisation and sustainability.

We remain positive on banks and the financial sector where the valuations vs growth equation is favourable. On the consumer side, we believe in the premiumisation story of the Indian markets. In the auto sector, premiumisation is evident, with rising share of SUVs being a clear sign.

Mid and smallcap stocks have greater exposure to real estate and industrial sectors compared to largecap stocks. Due to favourable macroeconomic factors, mid and small caps are well-positioned to deliver superior earnings growth over the next few years.

Volatility is part and parcel of the markets. Given the positive long-term India story, bouts of volatility could provide opportunity for the patient investor.

Asset Allocation could help contain volatility

Every investor may not have the same tolerance for market volatility. This makes asset allocation a critical strategy for managing investment risk and achieving long-term financial goals. It involves dividing an investment portfolio among different asset classes, such as equities, fixed income, and cash, to balance risk and reward based on an investor’s risk tolerance, time horizon, and financial objectives. By spreading investments across various asset classes, investors can reduce the impact of poor performance in any single asset class. This diversification helps in managing risk and smoothing out returns over time.

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Different asset classes respond differently to market conditions. For example, equities may offer high returns but come with higher volatility, while bonds provide relatively stable returns with lower downside risk. A well-diversified portfolio might help manage higher fluctuations in portfolio returns more effectively. Asset allocation should align with an investor’s financial goals. For instance, a young investor saving for retirement may have a higher allocation to equities, while someone nearing retirement might prefer a more conservative mix of assets.

Automate asset allocation with balanced advantage funds

Investors tend to be lethargic towards asset allocation if they need to rebalance assets on their own. For example, if equity markets rise, the allocation towards equity would increase automatically. This needs to be reduced to the predefined mix of equity and other assets. Most investors do not rebalance in such a scenario. Hence the need of the hour is to provide an automatic mechanism to rebalance portfolios for which the answer is Balanced Advantage Funds (BAFs), also known as Dynamic Asset Allocation Funds.

These funds dynamically adjust their allocation between equity and debt based on market conditions. Thus, BAFs help to reduce the impact of market downturns on the overall portfolio. This dynamic approach helps in managing risk and providing more stable returns. BAFs often use market valuation metrics, such as the Price-to-Earnings (P/E) ratio or Price to Book Value (P/B) to guide their allocation decisions.

Conclusion

While India’s equity market has delivered notable returns in recent years, 2024 has highlighted the importance of tempered expectations and prudent investment strategies. Asset allocation remains a cornerstone of effective portfolio management, which might help investors balance risk and reward. Balanced Advantage Funds provide a flexible and dynamic approach to manage market volatility, making them a potential valuable tool for investors seeking to reduce downside risks which might help them to achieve their long-term financial goals.

(Author is R Janakiraman, Chief Investment Officer – EME India, Franklin Templeton Asset Management (India) )