Earnings growth slowdown appears temporary, says Franklin Templeton's Hari Shyamsunder

Hari Shyamsunder, vice president & senior institutional portfolio manager—emerging markets equity—India at Franklin Templeton.
Hari Shyamsunder, vice president & senior institutional portfolio manager—emerging markets equity—India at Franklin Templeton.

Summary

  • A recovery is likely in the second half of FY25, aided by an increase in government spending over the first six months of FY25 and improvement in rural demand, benefiting companies linked to this theme, says Shyamsunder.

Government capex would align with nominal GDP growth in times to come while private capex is expected to gather pace over the next three to five years, driven by higher capacity utilisation and an uptick in investments in emerging sectors such as renewables and electric vehicles, according to Hari Shyamsunder of Franklin Templeton.

Shyamsunder, vice president & senior institutional portfolio manager—emerging markets equity—India at the company, said the slowdown in corporate earnings in the second quarter ended September was temporary. A recovery is likely in the second half of FY25, aided by an increase in government spending to meet the budgeted target for the fiscal and improvement in rural demand, benefiting companies linked to this theme.

Edited excerpts:

What do you make of the slowdown (Q2FY25) in corporate earnings amid the relatively high valuations, especially in mid-and small-caps?

The Q2FY25 earnings season has been weak, with revenue and earnings growth under pressure across most sectors. This aligns with the GDP growth of 5.4%, the slowest in seven quarters. Slowing consumption, reduced capital expenditure, and declining exports have broadly impacted corporate performance.

Government-dependent companies have also struggled. Central government capex declined during this period, a sharp contrast to the 43% growth seen in H1FY24. This slowdown appears temporary, influenced by elections and government formation in the fiscal year’s first four months. A rebound is expected in H2FY25 as the government ramps up spending to try and meet budgeted targets.

Urban demand remains soft, but rural demand shows early signs of recovery. Government spending on public distribution system (PDS), rural development and agriculture has increased by 30% year-on-year in key ministries. The expected recovery in capex during the second half should benefit companies linked to this theme and refocus attention on India’s ongoing multiyear capex cycle.

Looking ahead, the government capex is expected to align with nominal GDP growth, while private capex is likely to grow at a faster pace.

Private capex has been relatively sedate given the deleveraging seen in recent years. How do you see that playing out?

We are optimistic about private capital expenditure (capex) over the next 3-5 years. Cash capex for BSE 500 companies grew by approximately 20% annually during FY23 and FY24, a healthy pace. However, this growth has been overshadowed by the much sharper increase in central government capex.

Read more: States push for more fiscal room, seek expansionary Union budget

Looking ahead, the government capex is expected to align with nominal GDP growth, while private capex is likely to grow at a faster pace. Higher capacity utilization could trigger a traditional uptick in capex, with investments in emerging sectors such as electronics, semiconductors, electric vehicles, and renewable energy playing a more significant role than before.

Corporate balance sheets remain strong, and funding is readily available through both equity and debt channels, providing a solid foundation for sustained private capex growth.

How is Franklin Templeton treading the markets--theme or sector wise? Also, your view on BFSI and IT.

At Franklin Templeton, we adopt a bottom-up, valuation-aware approach to stock picking. Unlike markets such as the US, where growth has been concentrated in a few stocks, the Indian market has seen broader-based growth. Corporate earnings growth in India has been among the most diversified over the past two decades, creating ample opportunities for investors.

We are optimistic about banks, where the growth-to-valuation equation is one of the most attractive in the market. In the IT sector, we have moved from an underweight position last year to a broadly neutral stance, awaiting more favorable entry points.

The RBI has a new governor. Do you see the price stability-growth-exchange rate trade off shift in favour of growth?

The RBI's mandate is clear: to maintain price stability through inflation targeting while considering the goal of supporting growth. The challenge lies in the current inflation dynamics. Core inflation remains below the 4% target midpoint, while food inflation has pushed headline inflation closer to 5.5%.

If food inflation were purely transitory, the RBI could overlook it. However, over the past five years, food inflation has averaged around 7% annually. As a result, the RBI may aim to bring headline inflation closer to the 4% target to prevent inflation expectations from becoming anchored at higher levels.

While Q2 GDP growth was slower than expected, the RBI is unlikely to react to a single data point. Instead, it may wait for further signals before taking any decisive action to shift towards favouring growth.

Strong US economic growth, persistent inflation, and rising debt levels justify the Fed's cautious approach to further rate cuts.

Our trade deficit has widened to a record high and the rupee is under pressure. With US Fed policy on a loosening trajectory and Trump takeover, how do you see the financial and trade landscape going forward?

The Fed has reduced rates by 100 basis points since September and is now expected to make only two additional cuts in 2025. While this pace is slower than market expectations, it aligns with our outlook. Strong US economic growth, persistent inflation, and rising debt levels justify the Fed's cautious approach to further rate cuts.

Global uncertainties in growth and inflation dynamics may create short-term pressures on the rupee. However, the currency has depreciated at a slower rate in recent years compared to historical trends, supported by structural factors such as robust services export growth and steady remittance inflows. We expect this relative stability to continue.

On China, do you expect further stimuli and consequently foreign outflows from India in favour of the former?

Chinese consumers have remained cautious due to structural factors, including inadequate social safety nets, a negative wealth effect, and job insecurity. Issues like high inequality and an ageing population have further exacerbated the situation. Over the past five years, Indian corporate earnings have doubled in the listed space, while China’s earnings have declined. In response to these challenges, China’s policymakers have recently stepped up efforts to address economic weaknesses. While relatively inexpensive valuations could prompt tactical shifts into Chinese markets based on stimulus measures, structural tailwinds continue to favor India's long-term growth story.

What are your views on fixed income, real estate and gold?

A multi-asset approach is prudent for stable wealth growth. Fixed income plays a critical role in diversification, offering stability to portfolios during periods of equity market volatility. India's real estate sector remains in a growth phase, with property prices rising across markets due to low inventory levels. Potential interest rate cuts could further support this cycle. Gold could be allocated as a smaller component of the portfolio, serving as insurance against adverse tail events and enhancing overall risk management.

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