Markets are euphoric, even minor earnings misses can trigger sharp volatility, says DSP MF's Kalpen Parekh

Mint

21-07-2025

Earnings need to pick up and even a minor disappointment could trigger sharp volatility given that the valuations are still driven by past growth, according to Kalpen Parekh of DSP Mutual Fund.
'As we head into the upcoming earnings season, we believe the easy phase of earnings growth is behind us," said Parekh, managing director and chief executive officer at the company that manages over ₹2 lakh crore in assets.
The next leg of earnings must come from top-line growth, according to Parekh. Current revenue growth is a modest 4%, and a meaningful pickup will require a recovery in demand as margin-led growth is fading, he said.
Valuations reflect past strong earnings growth, but not the recent slowdown to single-digit gains, Parekh said. 'Markets are euphoric, where even minor earnings disappointments trigger sharp volatility," he said. Still, liquidity remains strong, every 5-10% dip attracts fresh money, SIPs stay steady, and many funds hold cash which is yet to flow in.
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Meanwhile, promoters and experienced investors are selling in the rally, suggesting they see overvaluation, Parekh said, adding that a surge in initial public offerings (IPOs), rights issues, and qualified institutional placements (QIPs) indicates insiders are cashing out.
Edited excerpts:
Do you see the ongoing twists and turns in the India–US trade deal negotiations as a source of high market volatility in the near term?
The ongoing negotiations and shifting narratives around the India–US trade deal are a vivid reminder that, whether it's tariffs, changing global alliances, or evolving policy frameworks, the landscape will remain volatile. And yes, these twists and turns can, and do, lead to bouts of market volatility in the near term.
That said, volatility is not new for investors. And our role is to not chase headlines or every policy move or market swing; instead, it is to focus on resilient, well-managed businesses.
We see businesses across sectors investing in innovation, expanding their reach, and building robust supply chains, qualities that help them withstand not just trade-related shocks but a wide range of uncertainties. While the noise of global negotiations may cause short-term jitters, the underlying health of Indian businesses and their ability to adapt give us confidence that well-run businesses will continue to create enduring value.
What are your expectations for the upcoming earnings season?
As we head into the upcoming earnings season, we believe the easy phase of earnings growth is behind us. In the post-covid period, a powerful combination of robust revenue growth and margin expansion fueled strong profit growth. Much of this margin expansion, however, was driven by aggressive cost rationalization and operational efficiencies levers that may have now run their course. With margins nearing peak levels, the scope for further expansion looks limited.
This means the next leg of earnings will need to come from top-line growth. But here too, the picture is muted; revenue growth currently stands at a modest 4%, and a meaningful pickup will require a recovery in demand. The implication is clear: margin-led growth is fading. Demand-led growth must now take the lead. Unlike some global peers, Indian companies don't have infinite pricing power. Sustainable earnings will increasingly rely on volume recovery and demand strength.
Do you see the results season as a potential market mover?
Quite likely. We expect a mixed set of results, some resilience, some pressure.
But the focus will shift from cost-cutting to quality, from margins to demand. And in that shift, quality businesses will stand out more than ever.
The buzz is that earnings growth will pick up in the second half of FY26. Do you think that is already priced in the valuations?
Valuations have already priced in a strong trend of earnings growth over the past few years. What's not priced in is a slowdown—yet earnings growth has dropped to single digits at the aggregate market level.
If you exclude one-offs from a few telecom and cement companies, overall earnings growth is below 10%. Revenue growth has moderated, margins are peaking, and profit growth is slowing.
Historically, Nifty companies have delivered 12–13% profit growth over the long term. We're currently a bit below that, yet valuations are at 23–24 times earnings. For 12% growth, fair valuations would typically be around 16–18 times. So, markets are a year or so ahead of what would be considered fair value.
This isn't unusual, though. Markets sometimes trade ahead or behind fundamentals.
Are the valuations euphoric?
When markets turn euphoric and capital floods in, prices often run ahead of fundamentals. That's the phase we're in—where even minor earnings disappointments trigger sharp volatility.
Still, liquidity keeps flowing. Every 5–10% dip attracts fresh money. Many funds hold significant cash or bond allocations, with asset allocation funds only 30% invested on average. SIPs continue bringing in ₹25,000 crores monthly, regardless of market conditions.
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Meanwhile, promoters and experienced investors are selling into the rally, suggesting they see overvaluation. A surge in IPOs, rights issues, and QIPs indicates insiders are cashing out.
At the same time, long-term investors are entering, creating a tug-of-war between profit-booking and accumulation. Despite weak earnings, markets remain stable, climbing higher even.
How much do valuations matter across the market caps, especially in a market which is being called expensive?
For a genuine long-term investor, the two fundamental principles are clear: focus on the quality of the company and the price you pay.
These two factors—business quality and valuation—are what truly matter over the medium to long term. In the short term, markets can ignore both.
In bull markets especially, valuations are often overlooked. But in my 30 years of investing, every time I've ignored valuations, initial returns came—but long-term gains were lower, as prices eventually revert to fair value.
Markets don't stay expensive forever. Every company has a fair value, and paying above it usually leads to mediocre returns. Conversely, buying below intrinsic value typically delivers superior long-term returns.
Is the market looking expensive now?
Today, much of the market is expensive—some areas are priced months or even years ahead of fair value. But that doesn't mean you stop investing. If you're a long-term investor, staying invested is key. Just avoid low-quality or overpriced stocks. Returns that once came in a year may now take 18 months or more, so patience and adjusted expectations are important.
The past five years delivered unusually high returns. Naturally, periods of lower returns will follow. We're not fully there yet, markets are still performing, with many segments delivering 15–20% returns due to recovery and a low base.
Wearing a fund manager's hat, which segments do you see alpha coming from?
Our fund managers see alpha coming from select segments where demand revival and structural growth remain strong. There are very few bargains available in the market. We like some of the sectors like private banks and healthcare and some selected opportunities in some other sectors. Large caps offer a better risk-reward profile than richly valued mid- and small-caps.
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Currently, the median (price-to-earnings) P/E ratio for mid- and small-cap stocks is 44x, which is very high from its long-term averages. The top 10 stocks seem relatively better placed in terms of return on equity (ROE) and valuations.
Ultimately, alpha will be driven by quality businesses with durable moats and genuine growth drivers, rather than cyclical or overvalued segments.
How effective are gold and silver as assets for portfolio diversification? Do you anticipate their allocation increasing and regaining attention among investors?
Gold and silver should be part of your portfolio—not just because there's a war today, which could end tomorrow, but also due to exit and tax considerations.
They're especially relevant for investors in emerging markets. Over the last 30 years, gold outperformed equities in 24 out of 25 emerging markets. India was the only exception, and even that margin has reversed.
Gold typically shows low or even negative correlation to equity indices like the Nifty. While gold's long-term return is ~11% and Nifty's is ~13%, a 50-50 mix has delivered close to 13%—with 40% lower volatility due to opposing correlations.
Gold isn't for cash flow but serves as a hedge—preserving returns and reducing volatility. Equities should form the larger part of your portfolio, as they generate cash flow. Still, during long periods when stocks deliver zero or negative returns, gold has historically performed well.
A key long-term reason to own gold is currency debasement. Central banks have printed increasing amounts of debt in the last 10–15 years, weakening currencies. Since gold is finite and can't be created at will, it holds its value and acts as a safeguard.
What about oil?
Large money managers like us can't move money in and out very quickly. So what we often say is that, in some of our funds, we hold XLE—an index of global energy companies like Exxon, British Petroleum, or Chevron.
If oil prices temporarily spike, these are the companies that tend to benefit through improved profitability, and we gain exposure by owning their shares through this global index. That's one way to participate in oil or hedge against sharp oil price movements.
Alternatively, one can also own a couple of energy companies in India. That's generally the most practical way to get oil exposure.
However, the challenge with investing in oil, or in companies involved in oil and other commodities, is that they typically don't generate strong return ratios over the long term. Their ROE often doesn't even exceed their cost of capital.
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Additionally, oil price volatility is something these companies can't forecast—let alone investors like us. And if you can't forecast the price, it's difficult to value the business properly.
So, we tend to invest in such companies only when they're in a very low cycle, when prices are depressed, and downside risk is limited. Then, any price rise can provide a useful hedge.
We also discussed debt—are fixed income investments regaining popularity among investors?
By the time investors start talking about an asset class, the best returns have usually already come.
Currently, interest rates in India are around 7–8%, so bond returns are in that range. But over the last two years, well-managed bond funds have delivered 10–12%. The ideal time to invest was when no one was interested—two years ago.
With rates trending down and the RBI cutting, bonds remain important—especially if you're cautious about equities or want to reduce portfolio volatility. As a conservative investor, I typically maintain a 65–35 split. When valuations are high, I shift 20–25% into bonds and 10–15% into gold.
Interest rates have been stable and may continue to trend lower, though they're hard to forecast beyond 3–6 months. That said, India's fiscal position, currency, and inflation are all in reasonably good shape.