Indian Stock Market 2025: Balancing challenges with strong growth prospects

In 2024, the Indian stock market delivered decent returns to investors, with the BSE Sensex rising by 8.17% and the National Stock Exchange (NSE) Nifty50 climbing 8.8%. This was despite numerous challenges throughout the year, including heavy selling by foreign institutional investors (FIIs), weak corporate results in the second quarter, unfavourable weather conditions, geopolitical tensions between Iran and Israel, as well as Russia and Ukraine, delayed interest rate cuts amid persistent inflation, and the unexpected Lok Sabha 2024 (General) elections results. 

We expect the stock markets to perform well, supported by strong macroeconomic stability driven by improving terms of trade and flexible inflation targeting. Robust earnings growth is anticipated over the next few years, fuelled by an emerging private capex cycle, the re-leveraging of corporate balance sheets, and a structural rise in discretionary consumption. Additionally, strong domestic growth, the absence of a recession in the US, benign oil prices, and a reliable source of domestic risk capital are expected to bolster these growth prospects. This outlook assumes the continuation of India’s gains in macroeconomic stability through fiscal consolidation, increased private investment, high real GDP growth and relatively lower real interest rates.  

The month of December saw Nifty and Sensex, representing Indian large caps, dip by 2%, mirroring a similar trend in the S&P 500, which fell by 2.4%. In contrast, Indian midcaps edged up by 1%, while small caps remained flat. Meanwhile, US midcaps and small caps faced steeper declines of 7% and nearly 8%, respectively, with most developed markets, including Europe, also witnessing declines of 2% or more.

This downturn, particularly in US equities, can likely be attributed to FIIs engaging in tax-loss harvesting or reassessing their asset allocation strategies, possibly shifting assets into cash. Notably, US Treasury yields for bonds maturing from two to thirty years increased, while yields for T-bills (with maturities of one year or less) decreased, coupled with significant inflows into money market funds. This scenario, set against the backdrop of the Federal Reserve lowering interest rates, suggests asset reallocation rather than short-term gains from these funds. Given the Fed’s rate cuts and potential policy shifts under President Trump, including tariffs on certain foreign countries potentially leading to higher US inflation, US funds might find investments in these countries riskier.

Despite short-term market fluctuations, the Indian economy appears robust, with real GDP expected to close FY2025 at 6.4% and nominal GDP at 9.7%. Inflation is expected to be well within the Reserve Bank of India’s (RBI) upper band of 6%, bringing nominal GDP growth to the 11.5%-12% range. Listed companies are expected to outpace nominal GDP growth, given the underrepresentation of the slower-growing agriculture sector in listed markets. Strong indicators, such as Purchasing Manager’s Indexes above 50 and a 9.1% year-on-year increase in GST collections from April to December 2024, reinforce this positive outlook. Additionally, advance tax collections for the same period show a 21% growth, with corporate advance taxes up by 17% and non-corporate taxes soaring by 35%.

Government spending is anticipated to rise significantly in the last quarter, further boosting growth for FY 2024-25. The upcoming Union Budget for FY 2025-26 is expected to focus on strong capital expenditure, potentially increasing allocations by 12% or more compared to the previous year.

Despite multiple rate cuts by the US Fed, the RBI has yet to follow suit but is expected to start reducing rates in its next meeting in February. The favourable PMI, GST, and tax data suggest a strong finish for FY2025, with the subsequent budget likely to be growth-oriented. We anticipate revenue and earnings growth in the range of 15%-16% for Calendar 2025 and FY26, with markets potentially re-rating to a PE multiple of 25 or higher, driven by RBI rate cuts and renewed FII inflows.

In terms of valuations, large caps appear undervalued (PE=22) relative to midcaps (PE=43) and small caps (PE=34), which seem overvalued. Within the Nifty indices, sectors such as Banks & Financial Services, Auto, Metals, and Oil & Gas trade below the Nifty 50 average PE. However, given their cyclical nature and slower growth, Metals and Oil & Gas might be fairly or overvalued even at these lower PEs, positioning Banks as the most undervalued large sector currently.

US Market Outlook for 2025

The U.S. stock market saw an extraordinary rally in 2024, with the NASDAQ-100 leading the charge, bolstered by the tech sector’s strength. The NASDAQ surged by 34%, the S&P 500 rose by 28%, and the Dow Jones Industrial Average gained 16%, marking consecutive years of strong performance. 

Several factors will shape the market trajectory in 2025:

1. Federal Reserve Policy: Interest rate decisions will remain critical, influenced by economic indicators like inflation and employment rates.
2. Economic Growth: Sustained consumer spending and business investments could drive continued growth, though signs of a slowdown may pose challenges.
3. Corporate Earnings: Maintaining robust earnings growth is essential for sustaining investor confidence.
4. Geopolitical Developments: Global trade policies and geopolitical tensions, especially potential tariffs under President Trump, could impact market stability and inflation.

Lessons for Investors

The exceptional performance of companies like AppLovin underscores the value of identifying disruptive growth stories early using the Scientific Investing Framework. While popular names like NVIDIA and Tesla continue to deliver impressive returns, mispriced innovators demonstrate potential for exponential growth. As 2025 unfolds, investors are advised to diversify portfolios, stay informed about economic and geopolitical developments, and maintain a long-term perspective to navigate uncertainties effectively.

(The author is CEO and Chief Investment Strategist, OmniScience Capital)

Disclaimer: The views and recommendations above are those of individual analysts or broking companies, not Mint. We advise investors to check with certified experts before making any investment decisions.