Edited excerpts from a chat on how to invest in the new year:
As we step into 2026, have things got better for investors in the equity market, or do you think the new year will be much like 2025?
We believe investors are under-appreciating the structural benefits that ensue from a high real growth, low inflation environment. Low inflation underpinned long expansions in the U.S. in the 1990s and 2010s, creating real economic prosperity, increased purchasing power, lower interest rates, reliable business planning for corporates, anchored inflation expectations, and higher confidence for consumers.
Looking at where we were a year ago, the Fed was actively engaged in QT. As of a couple of weeks ago, the Fed has now embarked on monetary liquidity injections to the tune of USD 40 billion a month, as well as a rate cut cycle. Japan has announced a USD 135 billion stimulus, Germany announced a Euro 500 billion stimulus, and China is engaged in targeted stimulus. Over 90% of the global central banks we track are in accommodative mode.
This time last year, investors were upbeat about a new President in the U.S — one that would end the Ukraine war, bring down prices in the U.S., and was considered pro-growth, pro-business. We all know how that turned out. 2025 has been a tumultuous year, with exceptionally high uncertainty and tectonic shifts in trade.
Domestically, the Indian growth engine sputtered in October 2024, and Indian equities headed into 2025 were in the midst of an economic and market correction. Decisive action by the Indian government has led to meaningful cuts in GST, tax cuts for the middle class, and the government has stayed the course on infrastructure investment. The RBI has delivered helpful rate cuts and liquidity injections. As a result of these measures earlier in the year, a slew of positive news has been coming forward since Diwali, on improved consumer spending, healthy rural, rising incomes and improving credit for small and medium businesses. India has also successfully managed to redirect much of the tariffed U.S. goods to other countries.Meanwhile, a historic tech wave is underway, with USD 500+ billion in capex investments lined up for 2026, that holds the promise of delivering productivity improvements to enterprises across industries. Finally, India withstood massive selling by FIs, to the tune of INR 2.5 lakh crore since October last year, and that appears to be abating.So, we think it’s a decidedly improved environment heading into 2026.The word that comes to mind is resilience. India’s taken the best punch the U.S. could throw on tariffs, redirected trade to other countries, and shown resilience with 8.2% real growth and positive returns on largecap equities for the tenth year in a row, and also positive returns on midcaps. Things can change rapidly once INR 2.5 lakh crore of selling starts receding, new pension fund money finds its way into markets, and initiatives to deepen equity ownership by large public and private initiatives start to take hold.
For Indian equity investors, we expect fundamentals to eventually trump flows as they always do, and the odds are high it will happen in 2026. 2026 looks set to be a decidedly better year than 2025.
Despite all the noise that we saw in the year, we are still ending with around 9-10% upside on a headline index level. This would be Nifty’s 10th consecutive year of positive gains. How big an achievement is that from an overall perspective for long-term investors?
That is an exceptionally rare feat in markets. Typically, markets have a negative year every third year or so. This data point highlights India’s consistent, structural growth, continual reform mindset of the government, the strong demographics of the country, as well as the financialization trend driving ever-rising flows into the markets. In a world where disruption is constant, one also has to note that the Nifty has done a commendable job in terms of index updates. This type of track record gives long-term investors confidence and comfort and invites those who are invested in low-yielding instruments such as fixed deposits to consider equities.
But the pain in smallcaps as well as select midcaps has been troubling a lot of portfolios. Do you see the market improving for them incrementally in the next few quarters?
Largecap investors are up +11% return YTD, fairly respectable. Post earnings updates in November, Nifty earnings are up 15.3% YoY, and earnings revisions are coming through. Heading into 2026, largecaps appear well-positioned with a broadly diversified mix of companies, old and new, experienced management, and bargaining power.
Midcaps – despite delivering stellar earnings growth – are up 5-6%, not bad after two years of strong gains of +24.5% in 2024, and +44.6% in 2023. The forward P/E on best-fit forward 12-month earnings is down to 27.8 times. For an index delivering 20%+ growth and revisions up 20% year over year, we continue to believe midcaps are well positioned to deliver attractive returns. As we stated earlier, fundamentals will trump flows.
Smallcaps and microcaps are clear laggards, with -7% and -19% returns YTD. Moreover, smallcap earnings growth and index revisions data aren’t looking great either. We would look to build smallcap exposure via bottom-up, selective, actively managed strategies via experienced, proven fund managers, rather than index-based passive exposure.
Our strong preference – across cap – continues to be actively managed portfolios over passive indices, heading into 2026. We continue to believe stock and sector selection will be widely dispersed again in 2026, and stock selection and sectoral, thematic investing will yield better than market returns.
Do you think that midcaps are positioned more favourably from earnings growth and valuations, as well as compared to smallcaps?
Here’s an interesting factoid — midcaps are the sweet spot when it comes to equity investing in India. They exhibit strong earnings growth and typically much lower volatility than smallcaps, and consistent high growth relative to largecaps. We think midcaps have strong fundamentals underpinning them, and it is only a matter of time before the market rewards earnings delivery, and intrinsic value is realised in midcaps.
2026 has the potential to witness the return of inflation, certainly in the U.S. That could create uncertainty and volatility. While we’ve painted a rosy outlook, one must acknowledge a plethora of risks that lurk in the shadows as well, ranging from supply shocks, inflation, disappointment related to the AI trade, a weakening dollar, debt, etc. Until the macro environment turns decidedly favourable, or we begin to witness improving estimate revisions and earnings delivery in smallcaps, we prefer midcaps over smallcaps. Our preference for smallcaps remains bottom-up, active selection.
Which sectors of the market are you bullish on for the next 1 year?
We are typically thematic in our approach to portfolio construction. That’s worked pretty well in 2025, allowing effective alignment with markets, and we expect it to work again in 2026.
We prefer attractively valued public and private sector financials, financial services, consumption, autos and auto components, industrials, commodities and IT. We like platform plays in capital markets, as financialization trends are set to accelerate, driven by various private and public initiatives. We like consumption-related new economy plays. We are bullish on consumption – particularly leisure and credit trends. Commodities look interesting, driven by multiple triggers, ranging from monetary easing, a weak dollar, a global race to secure resources, AI buildout, infra upgrades, the threat of inflation and the allure and protection of hard assets. Finally, we prefer midcap IT names active in the AI and leading tech spaces. Finally, we’ve been overweight gold and silver since March 2024 and continue to be bullish on precious metals.
For someone beginning a new portfolio with an outlay of Rs 10 lakh, how much allocation would you recommend in gold, silver, debt and equities?
Assuming the investor has a moderate risk appetite, we would recommend a 12.5% allocation to gold, a 4-5% allocation to silver, and a 72% allocation to equities (67.5% largecap, 22.5% midcap and 10% smallcap). The balance 11% we would advise a mix of credit, InvITs and avoid duration. Our allocation to equities would include a 6-8% allocation to REITs.
What are the risks that investors need to be mindful of as they step into 2026?
Our primary concern for 2026 is a surge in inflation and rising commodity prices. Separately, high valuations and high concentration in U.S. tech stocks are a concern as these could impact global markets. Uncertain AI outcomes and excessive spending are additional worries. In addition, rising interest rates or currency volatility in key developed markets, particularly Japan, poses a risk to the unwind of a very large carry trade. The U.S. consumer appears to be slowing, and credit risks and defaults in U.S. markets remain additional concerns as we head into 2026. Finally, the massive global stimulus and monetary expansion have the potential to lead to unintended consequences. Domestically, we would list inflation, policy missteps and unforeseen geopolitical outcomes as key risks. Vigilance will remain necessary.
Having said that, we would note that Indian equities, particularly a well-selected portfolio of quality companies with strong business models, earnings visibility, low debt, high ROIC, riding structural tailwinds, have come through one crisis after another and delivered stellar returns consistently. Investors should not let global macro worries deter them from pursuing a long-term, wealth creation strategy that is aligned with their risk and return objectives.
