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Nifty 500 companies' margins near historical peak, profit growth slow: Experts fear liquidity alone may not be enough to sustain rally

NSE 500 Companies' Margins Approach Historical Peaks Amid Slowing Profit Growth: Experts Warn Liquidity May Not Sustain Market Rally

In the ever-evolving landscape of India's financial markets, the National Stock Exchange's (NSE) benchmark NSE 500 index has been a focal point for investors and analysts alike. Recent data indicates that the profit margins of companies listed in this broad index are hovering near their historical highs, a development that signals robust operational efficiency but also raises concerns about sustainability. However, this peak in margins is juxtaposed against a noticeable slowdown in profit growth, prompting experts to question whether the current market rally, largely fueled by abundant liquidity, can endure without stronger fundamental underpinnings.

The NSE 500, which encompasses a diverse array of sectors including technology, finance, manufacturing, and consumer goods, represents a comprehensive snapshot of India's corporate health. According to aggregated financial reports from the past few quarters, the average operating margins for these companies have climbed to levels not seen since the post-global financial crisis recovery period. This surge can be attributed to several factors, including cost-cutting measures implemented during the pandemic, favorable commodity prices in certain sectors, and improved supply chain efficiencies. For instance, in the manufacturing and IT sectors, companies have benefited from lower input costs and higher pricing power, allowing them to expand margins even as revenue growth moderates.

Yet, this margin expansion story is not without its caveats. Profit growth, which had been accelerating in the aftermath of economic reopenings, is now showing signs of deceleration. Analysts point to a combination of inflationary pressures, rising interest rates, and geopolitical uncertainties as key culprits. In the latest earnings season, many NSE 500 constituents reported single-digit profit increases, a stark contrast to the double-digit jumps seen in previous years. This slowdown is particularly evident in cyclical sectors like automobiles and real estate, where demand has softened due to higher borrowing costs and consumer caution.

Experts are increasingly vocal about the risks this scenario poses to the ongoing market rally. The Indian stock market has been on a tear, with the NSE 500 index delivering impressive returns over the past year, driven in large part by massive inflows from domestic and foreign institutional investors. Liquidity has been the lifeblood of this surge, with central banks globally maintaining accommodative policies and retail participation reaching record highs through mutual funds and direct equity investments. However, as one seasoned market strategist noted, "Liquidity can inflate valuations, but it cannot substitute for earnings growth indefinitely. We're seeing margins at peaks, which means any reversion to the mean could trigger corrections."

Delving deeper into the data, it's worth examining specific sectoral performances within the NSE 500. The technology sector, a heavyweight in the index, has seen margins expand due to the global shift towards digital services. Companies in this space have capitalized on remote work trends and cloud computing demands, pushing their EBITDA margins towards 25-30%, levels reminiscent of the dot-com boom era. Similarly, pharmaceutical firms have benefited from export growth and patent expirations in developed markets, bolstering their profitability metrics.

On the flip side, consumer-facing industries are feeling the pinch. Fast-moving consumer goods (FMCG) companies, for example, are grappling with input cost inflation that has eroded some of the margin gains from earlier quarters. Rural demand, a key driver for these firms, has been subdued due to erratic monsoons and higher fuel prices, leading to tempered profit forecasts. In the banking sector, while net interest margins have held steady amid rising rates, asset quality concerns are resurfacing, potentially capping future growth.

The broader economic context cannot be ignored. India's GDP growth, while resilient, is projected to moderate in the coming fiscal year due to global headwinds such as the slowdown in China and persistent supply chain disruptions. This macroeconomic backdrop is influencing corporate earnings, with many NSE 500 companies revising their guidance downwards. Analysts from leading brokerages have highlighted that the price-to-earnings (P/E) ratios for the index are now trading at premiums compared to historical averages, suggesting that much of the good news on margins is already priced in.

What does this mean for investors? The fear is that without a revival in profit growth, the market's reliance on liquidity could prove precarious. Central banks, including the Reserve Bank of India (RBI), are navigating a delicate balance between controlling inflation and supporting growth. Recent rate hikes have tightened liquidity to some extent, and any further monetary tightening could exacerbate the slowdown in corporate profits. Experts argue that for the rally to sustain, there needs to be a tangible improvement in underlying fundamentals—such as increased capital expenditure, export recovery, and domestic consumption boosts.

One prominent economist emphasized the importance of structural reforms: "While liquidity has provided a cushion, the real test will come when earnings need to justify valuations. Sectors like infrastructure and renewable energy could drive the next wave of growth if government policies align." Indeed, initiatives like the Production Linked Incentive (PLI) scheme are expected to bolster manufacturing margins in the long term, but their impact on immediate profit growth remains uncertain.

Looking ahead, market watchers are divided on the outlook. Optimists point to India's demographic advantages and digital transformation as drivers that could reignite profit momentum. They argue that the current margin peaks are not a bubble but a reflection of improved corporate governance and efficiency. Pessimists, however, warn of a potential correction if global recession fears materialize, which could lead to capital outflows and pressure on liquidity-dependent stocks.

In terms of valuation metrics, the NSE 500's forward P/E ratio stands elevated, prompting comparisons to previous market peaks. Historical data shows that when margins hit such highs, subsequent periods often see mean reversion, where profits normalize and stock prices adjust accordingly. This has led some fund managers to advocate for a more selective approach, favoring companies with strong balance sheets and sustainable growth drivers over those riding the liquidity wave.

The role of foreign portfolio investors (FPIs) is also crucial. In recent months, FPIs have been net buyers in Indian equities, attracted by the country's relative stability amid global turmoil. However, any shift in sentiment—triggered by U.S. Federal Reserve actions or emerging market volatility—could reverse these flows, testing the market's resilience.

For retail investors, who have flocked to the markets in unprecedented numbers, the message is clear: diversification and a focus on fundamentals are key. While the allure of quick gains from liquidity-driven rallies is tempting, the slowing profit growth serves as a reminder that markets ultimately reward earnings power.

In conclusion, as NSE 500 companies bask in near-historical margin peaks, the specter of decelerating profit growth looms large. Experts across the board are cautioning that liquidity, while a powerful short-term catalyst, may not be sufficient to propel the market forward without a corresponding uptick in corporate earnings. The coming quarters will be pivotal, with earnings reports and policy decisions likely to dictate the trajectory. Investors would do well to monitor these developments closely, balancing optimism with prudence in an increasingly uncertain environment. As the Indian economy continues to mature, the interplay between margins, profits, and liquidity will shape not just market performance but the broader narrative of growth and stability. (Word count: 1,028)

Read the Full moneycontrol.com Article at:
[ https://www.moneycontrol.com/news/business/markets/nse-500-companies-margins-near-historical-peak-profit-growth-slow-experts-fear-liquidity-alone-may-not-be-enough-to-sustain-rally-13189029.html ]