US-Iran Tensions: Have Indian Markets Priced in the Risks? A Perspective from DSP Mutual Fund.

Market Sentiment Fragile, but Emerging Signs Suggest It May Be Time to Add Equity Exposure

The Indian stock market is facing numerous headwinds, including a raging war in West Asia, surging crude oil prices, and massive foreign capital outflows, which have kept domestic market sentiment fragile. As of April 6, market benchmarks, the Sensex and the Nifty 50, have dropped up to 14% from their peaks.

However, despite this ongoing correction, emerging signs suggest it may be the right time to add equity exposure in moderate proportions, according to DSP Asset Managers. The asset management company is shifting its stance on equities as market valuations approach fair levels.

The base of DSP AMC's hypothesis is easing market valuations, which offers an opportunity to start raising equity exposure while the market is falling and moving closer to fair valuation levels. The AMC highlighted that the large-cap valuations are now close to long-term averages. Major sectors, including banking, IT, healthcare, insurance, housing finance, and select FMCG, which together account for more than half the market cap, are at or below long-term valuations, according to DSP Asset Managers.

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However, the valuations are not cheap; they are getting closer to fair levels. The Nifty's trailing price-to-earnings multiple has fallen below 20 times, and on Q4FY26 estimates, it is already below 19 times, around its long-term average of 18.9 times.

As shown in the table, major sectors have seen a decline in their price-to-earnings ratio, indicating that valuations are approaching fair levels.

Small and mid caps (SMIDs) are still at much higher price levels than large caps, even though SMID valuations have started to normalise. The AMC noted that this is why this may not be the time to be very aggressive on equities.

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Valuations alone are not the point that suggests it is time to increase equity exposure. Most indices and large-cap stocks are deeply oversold, making them ripe for a rebound if market sentiment improves due to positive signals from the West Asian war front.

As shown in the table, only a small percentage of Nifty 500 stocks are above their 200-day and 50-day moving average, indicating that the market is oversold.

Another point highlighted by the AMC is the bond yield to earnings yield gap, which is now just 1%. This is an attractive zone for owning stocks, according to the AMC.

Volatility index India VIX surged to its 52-week high of 28.91 on March 30 this year, hinting at panic among market participants. According to DSP Asset Managers, panic-selling days should be used to increase equity exposure even as there is room for further downside in the Nifty 50, as the drawdown from the peak is only 15.5%.

The AMC observed that the Nifty 50 has not fallen more than 20% in the last six years, except during the COVID-induced market crash. This suggests that the market may be due for a rebound.

The ongoing war in West Asia and the resulting jump in crude oil prices remain key variables that will dictate the market trend in the short to medium term. While hopes are high that the war may end in the next two to three weeks, the fresh aggression of US President Donald Trump against Iran and uncertainty about the reopening of the Strait of Hormuz keep investors on tenterhooks.

Many experts believe the full impact of elevated crude oil prices on the earnings of Indian corporates and on the overall economy cannot be assessed at this juncture. If the war prolongs, the market downtrend may continue. On the other hand, a resolution will improve sentiment.

One way to play this uncertainty may be buying quality stock on the dip, as an end to the US-Iran war and a fall in crude oil prices may trigger a swift rebound in the market, and it would be prudent to be ready to reap the benefits of that rebound.

Historical data show that once the losing streaks ended, forward returns were usually favourable. In the full monthly history, only 7 episodes lasted 4 months or longer, and the longest was an 8-month run from September 1994 to April 1995. Across the 7 completed cases, the average return was 12.2% over 3 months, 22.4% over 6 months, and 40.7% over 1 year, while the median return was 13.9%, 17.0%, and 20.8%, respectively.