The markets have been rather muted in the past few sessions but the worst may not be over yet. That’s what Saurabh Mukherjea, Founder & CIO, Marcellus warns investors about. According to him, we are only halfway through busting the midcap bubble and expects another 30-40% correction in small and midcaps. He highlighted that household debt in India is at an all-time high and investors need to diversify investments, especially in US.
In an exclusive conversation with FinancialExpress.com, Mukherjea highlighted the top sectors to bet on at the moment and his big ‘Avoids’.
How are you reading the markets currently?
Basically just before the elections, the economy started softening, and therefore in our small and midcap portfolios, we started moving into cash from August last year. We’ve kept increasing the cash allocations. Even today we have 30% of our small and midcap portfolios in cash and the corporate earnings slowdown has continued. I think the fourth quarter will probably be the weakest quarter of corporate earnings growth in India. If you leave aside Lehman and Covid-19, I think you probably have to go back 25 years to see something like what we’ll see in the fourth quarter earnings.
How do you see tariff impacting markets over the medium term?
I think the worst of the Trump tariff is behind us. Most countries including Japan, Europe and India are likely to strike a deal with America. Even with China, on tech and mobile and semiconductor related stuff, America doesn’t seem to be keen to pick a fight and therefore you’re only left with one small piece or relatively small piece which is China non-tech. All trade partners will try to give America something, so that the President can claim victory vis-à-vis his domestic constituency, the people who voted him in, and beyond that, I think trade and business will resume relatively normally by the end of the summer.
What exactly will be the impact for the stock markets in the near term or over the long-term?
We are invested around the world. We are strongly urging our clients to allocate more to our global portfolio because we think European and American small and midcaps are significantly undervalued and look very attractive. They are trading at a 30-40% discount to the Nifty 50 with far better earnings growth. Our reading is that they’re inexpensive, earnings prospects are reasonably undiminished in spite of Trump’s rhetoric.
Back home, we are very worried about the small and midcaps. We have 30% in cash in our midcap portfolio. We think Indian midcaps still have plenty of room to run in terms of correction. I think a 30-40% correction is long overdue in midcaps. I wouldn’t advise anybody to accumulate small and midcaps at these valuations.
Indian large caps seem reasonably valued. They might be 10% overvalued, but I don’t think they have a massive overvaluation issue. I think large caps will fall a bit further but I am not expecting a big correction in large caps. But small and midcaps on the other hand is where there is a massive bubble. We are halfway through busting the small and midcap bubble.
What are your top three ideas for investors in the market, in the current market conditions?
I think global diversification is a must. The S&P 500 has delivered better returns with lower volatility and is available cheaper right now than the Nifty, so it makes sense to diversify.
In addition, most brokerages now make it very easy for Indians to access global equities through their broking apps. India and America have the lowest correlation amongst the world’s big markets.
Secondly, if you are utterly insistent that you want to invest only in India and nowhere else, then within India, diversify across asset classes. Have precious metals, liquid funds and FDs alongside stocks.
Thirdly,within equities go towards those sectors which are similar to holding cash today, such as FMCG, such as IT. That will reduce your risk of getting portfolio pounded in what looks to be a fairly deep economic cyclical downturn.
Why is this cyclical slowdown turning out to be so dramatic?
I think the cyclical downturn has probably been sharper than even I had anticipated. Consumption and Capex are basically the main engines of the Indian economy and they are muted, and I think that’s driving the intensity of the slowdown.
Household debt, especially for the middle-class, debt is at an all-time high. If you leave aside home loans, we’re amongst the most indebted nations in the world and obviously with that high level of debt, it’s difficult now for households to incrementally drive consumption.
The second is all kind of capex-private and public – now has throttled off. Private Capex has been modest for many years, but government Capex has tailed-off sharply in FY24. The last two months of FY25 suggests that even FY26 would be weak from a government Capex perspective.
I think in another year we will be seeing tangible signs of a recovery, but for that to come through, we need heavy rate cuts from the RBI. My reckoning is we need another 150 bps of rate cuts from the RBI.
What are the hardest lessons that you have learnt as a fund manager?
In the five years ending December 2021, we beat the market by 7 percentage points. By December 21, we thought we were walking on water and that our style of investing in great companies was a great way to invest. But 2022 and 2023 taught us a lesson. Specifically, the Russian invasion of Ukraine, the inflation which followed thereafter, and the 500 bps rate hike by the US Fed in 12-13 months led to a massive pullback in expensive stocks around the world.
In India, we got hit in those 15 months ending in the summer of 2023. The value of the portfolios we manage fell by about 15%. In response, in the second half of 2023, we changed the tools and analytics we used to invest and that’s brought about handsome results for us over the last 12 months.
As a result, our midcap fund has beaten the market by 5 percentage points over the last 12 months. Our small cap product has held its value over the past 12 months in stark contrast to most other Smallcap portfolios. Our global compounders product has beaten its benchmark (the S&P500) by 2 percentage points over the past 12 months. Our Quant product has beaten the benchmark over the 12 months by 7 percentage points. So, the valuation discipline that we injected into our investment process in the second half of 23 has worked nicely for us.
I find it interesting that the mistakes that we made in 2021 are the same mistakes we avoided in 2024. In 2025, I can sit and talk about it comfortably.
What are the top sectors that you’re betting on?
If you take IT services right, like the big IT services companies haven’t done much in terms of stock price over the last 2-3 years, but given where the Western economic cycle is today and given where the valuations of the IT services companies are, we are fairly comfortable holding some of the larger IT services names.
Similarly, the FMCG companies haven’t done much over the last three years, but given where the economy is today, we are fairly comfortable holding on to the FMCG names. Similarly, the Agri sector seems to us to be relatively insulated from the economic downturn.
The stuff that we regret having is capital goods and industrials. I wish we had a little less of that.
Which are the sectors that according to you are a strict avoid at the moment?
Well, I would say industrials. I think the extent of the downturn is going to hit investors. I think real estate would be a sector where there will be plenty of pain. The third sector would be low quality private sector lenders. I think they will also get bound in the next 12 months. Several of the smaller banks will really suffer both in terms of asset quality and in their difficulty in raising savings deposits.
What books would you recommend for investors at the moment?
The book, India Before the Ambanis: A History of Indian Business, Money, and Economy written by Lakshmi Subramaniam is a great read because it gives you a sense of just how vibrantly entrepreneurial we were at the height of the Mughal Raj and in the first 150 years of British rule. Only in the decades prior to the British leaving the country, we started losing our entrepreneurial zeal as the British bounded us, and then obviously after 1947, we became a socialist country. So, it almost feels like the last 15-20 years, we’ve really discovered our entrepreneurial zeal that we’ve always had in our blood.
I’m also reading Capitalism in America by Alan Greenspan, and I think Adrian Wooldridge. Alan Greenspan obviously is the famous former US Fed Chief and Woolridge a columnist and author. The reason I’m reading that is, I wanted to understand whether there are historical antecedents to what Trump is doing. Every 40-50 years America tends to get a President who comes to power convincing the public that if they thrash the foreigners, life will be much better.
Both interesting reads and about the world’s 2 best performing stock markets and also the world’s two largest free market democracies, and I don’t think that’s an accident.