Daily Voice: Economic revival to power small-cap outperformance, says Bajaj Finserv AMC's Nimesh Chandan

The US Dollar Index (DXY) has come under sustained pressure, falling 11% from its January highs, as investors reassess USD’s prospects amid a complex mix of structural and cyclical headwinds. The decline reflects mounting concerns over policy uncertainty.

The fiscal outlook, shaped by the Senate’s version of the One Big Beautiful Bill Act (OBBBA), has intensified scrutiny over the long-term sustainability of US debt. Lack of clarity over the succession plan for Chair Jerome Powell—has added to market unease.

Global monetary policy divergence is further complicating the dollar’s trajectory. The Federal Reserve is expected to start cutting rates over the next two quarters, while the Bank of Japan has begun tightening—a reversal of roles that historically favoured the dollar. In contrast, the eurozone is enjoying a wave of economic optimism, which has lifted the euro to multi-year highs and contributed to broad-based dollar weakness. The Forex market, which entered 2025 heavily overweight USD, is now undergoing a sharp and disorderly repositioning.

In the absence of a decisive shift in policy clarity or global stability, the dollar remains vulnerable to further downside.

Do you foresee two rate cuts by the US Federal Reserve in the second half of 2025, possibly starting in July, given the pressure from the White House?

Recent commentary from Federal Reserve officials highlights a growing divide over the timing of potential interest rate cuts. There are some Dovish voices, supporting cuts as early as July, prioritizing labour market risks over inflation concerns.

In contrast, FED Chair Powell and most of the Committee look like they prefer to wait for clearer inflation data, particularly the impact of tariffs. Even the FED Chair’s testimony suggests September could be a period where rates can be cut, depending on incoming data.

Overall, the Fed’s communication tone and incoming data suggest that unless labour market conditions deteriorate sharply, September remains the earliest probable window for easing policy.

Do you strongly believe that Indian markets are in a bullish trend? Is this primarily driven by hopes of an earnings recovery?

We believe the combination of surplus liquidity and lower interest rates sets the stage for a cyclical recovery in the economy. This recovery should begin to reflect in corporate earnings over time. However, markets tend to anticipate such shifts, and we expect them to start pricing this in ahead of actual earnings growth. Hence, the broader markets are likely to outperform, as they typically do during cyclical upturns.

Would you prefer to wait for better valuations in the defence sector, considering its structurally strong outlook, or do you recommend buying at current levels?

Defence remains a good structural theme in our view. However, valuations in the sector are a bit of a concern. It is important to evaluate companies on a case-by-case basis. We are particularly mindful of the working capital and valuation metrics within this space. As with any long-term structural opportunity, we would be keen to explore investments when valuation comfort emerges. That said, at present, it is challenging to find attractive valuations within the defence sector.

Do you expect strong earnings growth from banks and NBFCs in the coming quarters?

Banks and NBFCs are rate-sensitive, therefore careful selection within the space is important. The ongoing rate cut cycle could create near-term pressure points on NIMs for some banks, especially where lending rates fall faster than deposit rates. However, entities with a fixed-rate lending profile, such as certain wholesale-funded Tier 2 banks or select NBFCs, are better positioned to benefit from this environment.

Can India emerge as a major export hub for auto ancillary products?

The auto and auto ancillary space has been one of the notable success stories within Indian manufacturing. The auto ancillary segment, in particular, is a decent sized industry in India, with a significant presence of global MNC manufacturers. We believe India has the potential to emerge as a key export hub for auto ancillary products.

That said, the global auto industry is undergoing a quiet but meaningful transition from internal combustion engines to electric vehicles. Indian corporates will need to realign their expertise towards EVs. If they can successfully pivot towards EV-related components, there is definitely an opportunity to gain market share in the global auto ancillary markets.

Do you recommend maintaining an underweight stance on the IT sector?

We continue to believe that the IT sector will face demand-side pressure due to ongoing tariff-related uncertainty. While Indian IT services are not directly subject to tariffs, any escalation that leads to a broader global or US economic slowdown could indirectly impact the Indian IT sector demand. In light of this, we are currently maintaining an underweight stance on the Indian IT sector.

What is the kind of earnings growth that you are expecting from smallcaps in general in FY26?

Consensus estimates indicate that small caps could deliver earnings growth in the mid-twenties range in FY26. We believe that with the uptick in the economy and cyclical recovery underway, small caps earnings are likely to outpace those of large caps.

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