Nonetheless, the country faces challenges in 2025. The economy is showing signs of slowing. Equity markets have corrected sharply over the last few months, due in part to muted near-term earnings growth. Valuations remain perennially on the higher side. Additionally, a second Donald Trump presidency could strain trade relations. Should investors worry?

While caution is always warranted, we believe the answer is no. Let’s break it down.

Trade: India’s insulation

President Donald Trump has made his intentions clear on tariffs, calling them “the most beautiful word in the dictionary.” China, Mexico, and Canada are first in his sights. He’s also threatened to impose 100% tariffs on the BRIC countries, including India [1].

The prospect of restrictions on trade is, of course, worrying. India is a significant exporter of IT services and pharmaceuticals to the US. That said, the US’s trade deficit with India is relatively small compared to the other major economies (see chart). This should put India lower down the list of targets when the opening salvos are fired.

Furthermore, India has substantial foreign exchange reserves, amounting to US$635 billion in late November [2]. These reserves should provide a buffer to defend the rupee if necessary and enable the Reserve Bank of India (RBI) to conduct open market operations, ensuring ample liquidity in the system.

Most importantly, India's economy is largely driven by domestic factors, providing built-in resilience against global economic upheaval.

Economy: think global, act local

Approximately 80% of India’s GDP growth is fuelled by internal investment, consumption, and government spending [3].

Over the last decade, the government has implemented several painful yet crucial reforms, putting India on a more stable economic footing. For example, the 2017 Goods & Services Tax simplified India’s tax structure, while lower subsidies strengthened the government’s fiscal position. These measures have reduced reliance on new bond issuance as a source of funding. The government also took additional steps to lower the cost of doing business in India.

On the corporate front, the acceleration of digitalisation has enhanced efficiency and driven profitability. Meanwhile, efforts to clean up bad debt in the economy have bolstered company balance sheets.

In recent years, the government has spent on infrastructure development projects such as building roads, ports, and railways. Private capital expenditure has followed.

Moreover, India aspires to become a global manufacturing hub akin to China, piggybacking on the international supply chain diversification trend. India is already a global hub for IT services and other back-office functions thanks to the country’s skilled yet cost-effective labour pool.

Since the pandemic, many multinational corporations have sought to reduce risk by diversify their supply chains – the ‘China + 1’ manufacturing strategy. India, with its large, young, educated and English-speaking workforce stands to benefit from this trend over the long run.

For its part, the government has encouraged companies to shift their manufacturing bases to India through initiatives such as production-linked incentive schemes. These offer tax breaks and investment subsidies, especially for high-end manufacturing sectors such as smartphones.

Unemployment, historically a drag on the economy, is improving. The rate tumbled from 6% in 2017 to 3.2% in 2024 [4].

Temporary speedbump in a promising growth story

The current economic climate has been more challenging. The economy is projected to grow 6.4% in the 2024-25 fiscal year (down from 8.2% the previous year), the slowest in four years [5]. Multiple factors have contributed to this slowdown, including muted consumer demand and reduced government spending. We expect this will be a temporary lull.

While urban demand may remain affected by near-term inflationary pressures, there are signs that the long-overdue recovery in rural demand is gradually materialising. Last year’s bumper monsoon should help propel this shift. Government spending on capital projects is expected to pick up now that the disruptive general election is over and the extended monsoon rains have finally ceased. Construction activity should also resume. We’ll be watching the budget for the fiscal year 2025-26 on 1 February 2025 for signs of the government’s spending priorities.

Meanwhile, after a prolonged period of stable interest rates, there’s scope for the RBI to cut rates this year.

Earnings growth

India’s earnings growth has moderated in recent quarters, alongside a steep and prolonged stock-market correction. This trend has been primarily driven by financials and consumer sectors, which constitute a significant percentage of local indices. However, growth persists in other sectors, such as telecommunications, IT, real estate, and pharmaceuticals. Structurally, we expect corporate profit growth to remain robust, bolstered by macroeconomic tailwinds and strong balance sheets.

Despite these interim challenges, our overall outlook is positive. We continue to favour companies that deliver resilient earnings growth, underpinned by strong fundamentals such as pricing power and robust balance sheets.

Valuations: recent corrections offer a chance to accumulate

Indian stocks have always been a relatively more expensive compared to other emerging markets. The stellar performance since the pandemic has widened this gap. However, the recent correction, driven by a moderation in earnings growth, has caused valuations to pull back. Furthermore, some of the market premium is justified by the promising long-term backdrop and the impact of reforms feeding through to the broader economy. Corporate India is in relatively better shape than in the past, as reflected in steady earnings growth and companies delivering on their strategies.

For equity markets, it’s also important to understand the change around domestic flows. We have seen increased retail buying, with a notable shift towards SIPs (systematic investment plans), with investors committing to regular monthly investments into mutual funds. While flows have moderated over the last three months, this trend could continue over the long term, with equity savings as a percentage of gross household financial savings around 9%.

Nonetheless, there’s still some froth in the market. That’s why we welcome the recent sell-off and view it as a buying opportunity, given our positive long-term outlook. Ultimately, we take a bottom-up view and assess valuations on a stock-by-stock basis.

Final thoughts…

Despite short-term challenges, India’s growth story remains compelling. Supportive central government policies and a decade of necessary economic reforms have put India on a positive trajectory. The country is also relatively insulated in the event of Trump 2.0 trade and tariff wars, giving the economy resilience in times of upheaval.

In our view, the best way to capitalise on India’s potential is to invest in quality companies that benefit from long-term structural tailwinds, including aspirational consumption, infrastructure development, healthcare and digitalisation. As ever, an active, on-the-ground approach will remain key to unlocking this compelling investment opportunity. 

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