Large-caps appear relatively attractive as valuations normalise; selective opportunities emerge across banking, IT and small- and mid-cap stocks

India’s mutual fund industry may be entering a phase in which existing schemes could attract a larger share of incremental investor money than New Fund Offers (NFOs).

Chirag Setalvad, Head of Equities at HDFC Asset Management Company, said the scope for raising large amounts through NFOs could remain limited because most asset management companies (AMCs) have already built out their core product offerings.

According to Setalvad, the slowdown in NFO activity should not necessarily be interpreted as a sign of declining investor confidence or concerns over the direction of the equity market. Instead, it reflects the increasing maturity of India's mutual fund product landscape.

At the same time, Setalvad sees a potential shift in market leadership, with large-cap stocks appearing more reasonably valued compared with small- and mid-cap companies.

Why NFO opportunities may be limited

The Indian mutual fund industry has expanded significantly over the past decade, with AMCs launching products across almost every major equity investment category.

Investors today have access to large-cap, mid-cap, small-cap, flexi-cap, multi-cap, value, contra, sectoral, thematic and index-oriented strategies, among others.

As product categories have become increasingly populated, the scope for AMCs to launch entirely new mainstream equity products has narrowed.

Setalvad said most AMCs have largely filled gaps in their product suites, meaning the need to launch NFOs simply to complete their offerings has diminished.

This could result in a greater proportion of fresh mutual fund flows going into schemes that already have established portfolios, investment strategies and performance histories.

Existing schemes could attract more fresh capital

The shift from NFO-led fundraising towards established schemes could have implications for both investors and fund houses.

For AMCs, established schemes offer the advantage of existing distribution networks, recognised brands and investor familiarity. Investors, meanwhile, can assess a longer track record before committing capital.

Setalvad expects money to increasingly flow towards existing offerings rather than NFOs, although specialised investment products could create a new fundraising opportunity.

Specialised Investment Funds offer a new avenue

Specialised Investment Funds (SIFs) could become one area where AMCs have an opportunity to attract fresh capital.

However, Setalvad expects the initial contribution from this category to remain relatively modest.

The development of SIFs could nevertheless broaden the range of investment strategies available to investors and give fund managers greater flexibility in designing differentiated products.

NFO slowdown is not a market-confidence issue

Setalvad rejected the idea that the slowdown in NFO launches necessarily indicates that fund houses are waiting for greater clarity on the market.

Instead, he believes the principal reason is that the industry's product architecture is already relatively comprehensive.

The market itself remains challenging, but that volatility could actually create opportunities for active fund managers.

Sector valuations have become increasingly divergent, making broad-based exposure less straightforward and increasing the importance of stock selection.

Large-caps look increasingly attractive

One of Setalvad's strongest observations is the relative valuation advantage currently emerging in large-cap stocks.

The Nifty 50 is trading at a price-to-earnings ratio broadly in line with its long-term average, according to Setalvad.

By comparison, small- and mid-cap benchmark valuations remain around 20-25 per cent above their 10-year averages.

This valuation difference could potentially encourage investors to reassess their allocations.

Large-cap companies have also experienced relatively weak investor interest and ownership in recent years, according to Setalvad. If sentiment changes, this low ownership could provide room for a rotation of capital towards larger companies.

Small- and mid-cap valuations have moderated

Despite the relative valuation advantage of large-caps, Setalvad does not believe the small- and mid-cap universe should be ignored.

The SMID segment has remained broadly flat for about two years. This has resulted in a substantial moderation in valuations from their previous peak levels.

At their most expensive levels, small- and mid-cap stocks were trading at PE premiums of around 50-60 per cent over their long-term averages.

That premium has now reduced considerably.

However, Setalvad believes investors need to take a bottom-up approach rather than assume that the entire segment will perform uniformly.

There are still pockets where company-specific fundamentals, earnings growth and valuations could support attractive medium-term returns.

Sector valuations show a wide divergence

The current market environment is characterised by significant differences in valuations across sectors.

According to Setalvad, financials, information technology and consumer staples appear relatively attractive, while utilities, pharmaceuticals and capital goods are trading at comparatively richer valuations.

This divergence could provide active fund managers with greater scope to differentiate portfolios.

Rather than relying solely on index-level returns, fund managers can potentially allocate capital towards sectors and companies where valuations appear more reasonable relative to earnings prospects.

Banking stocks attract attention

The banking sector has underperformed meaningfully and is now trading at a discount to its long-term valuation averages.

Setalvad sees several fundamental factors supporting the sector.

Credit growth has picked up sharply, while asset quality remains benign. Margins have remained broadly range-bound, and deposits could receive additional support from changes to FCNR regulations.

The combination of improving credit growth, relatively stable asset quality and below-average valuations could make the sector attractive for selective investors.

However, differences in loan growth, deposit mobilisation, capital adequacy and asset quality mean that investors may need to remain selective within the banking universe.

IT stocks face an AI-driven reset

Setalvad's assessment of the IT sector is more nuanced.

IT services companies have significantly underperformed and valuations have fallen below their historical averages. However, the sector faces a structural transformation because of artificial intelligence.

AI could reduce the need for traditional headcount-intensive models while increasing pricing pressure in certain technology services.

At the same time, AI adoption could generate new technology demand and significantly improve productivity.

This creates both risks and opportunities.

Valuations may already reflect significant pessimism

The uncertainty surrounding AI has affected investor sentiment towards IT stocks.

According to Setalvad, current prices in some companies may already be factoring in a particularly challenging outlook.

If the actual impact of AI proves less disruptive than feared, or if companies successfully reposition themselves around AI-enabled services, select stocks could benefit.

However, identifying those potential winners remains critical because the impact of AI will not necessarily be uniform across the sector.

June-quarter results beat initial expectations

Corporate earnings for the June 2026 quarter were initially viewed with caution because of the impact of the West Asia crisis.

Investors had expected companies to face higher input costs, supply-chain disruptions and shortages of certain raw materials.

However, Setalvad said aggregate results turned out to be better than initially anticipated, although there were pockets of disappointment.

The better-than-feared performance indicates that several companies were able to absorb or manage external pressures more effectively than expected.

The sustainability of earnings growth will now become an important factor in determining whether current market valuations can be justified.

Market volatility could remain elevated

Despite the improvement in corporate results, Setalvad expects volatility to remain an important feature of the market.

Several external factors could influence Indian equities, including:

• Developments surrounding the West Asia crisis

• Global inflation trends

• Movement in international bond yields

• Elevated valuations in global equity markets

• Currency movements

• Global economic growth expectations

Such an environment could favour investment strategies focused on individual companies rather than broad market exposure.

Active management could gain importance

With valuations differing sharply across sectors and companies, active fund managers could have greater scope to generate differentiated returns.

A stock-specific strategy allows fund managers to avoid expensive pockets while increasing exposure to companies where valuations are supported by earnings potential.

This could be particularly relevant in the small- and mid-cap space, where index-level valuations may appear elevated even though individual companies can offer attractive opportunities.

IPO market expected to improve in second half

India's primary market has been relatively subdued during the first half of 2026.

According to Setalvad, companies raised approximately $5 billion through IPOs on a year-to-date basis, significantly below the roughly $20 billion raised through IPOs in each of calendar years 2024 and 2025.

The comparison excludes other fundraising routes such as offers for sale, qualified institutional placements and other transactions.

However, Setalvad expects activity to pick up during the second half of the year, with several large IPOs expected to come to market.

Domestic and foreign capital can support IPOs

A stronger IPO pipeline could create competition between primary and secondary markets for investor capital.

However, Setalvad believes there is sufficient domestic and foreign capital to support both segments.

Strong domestic financial savings, continued mutual fund participation and foreign portfolio flows could collectively provide liquidity for new listings while maintaining participation in existing listed companies.

The quality and valuation of upcoming IPOs will nevertheless remain important because a larger pipeline does not automatically translate into attractive investment opportunities.

What investors may watch in the coming months

The market setup highlighted by Setalvad points to several areas investors could monitor closely.

Large-cap rotation

A shift in investor preference towards relatively cheaper large-cap stocks could become an important market theme if valuations remain supportive.

Banking recovery

Improving credit growth and benign asset quality could support selected banking stocks, particularly where valuations remain below historical averages.

AI impact on IT

The pace at which AI changes IT services, employee productivity, pricing and business models will remain a major factor for the sector.

Selective SMID opportunities

Although small- and mid-cap valuations remain above long-term averages, company-specific opportunities could continue to emerge through bottom-up research.

NFO versus existing schemes

As AMCs' product portfolios become more complete, investors may increasingly focus on established schemes with differentiated strategies and proven execution rather than simply considering new fund launches.

Mutual fund flows could increasingly favour established products

The changing NFO landscape reflects the broader evolution of India's mutual fund industry.

In the earlier phase of industry expansion, launching new schemes allowed AMCs to introduce products that addressed clear gaps in investor demand.

Today, many of those categories already exist.

Consequently, the competitive focus could shift towards investment performance, portfolio construction, distribution reach and investor retention.

For investors, this could mean that the absence of a new NFO does not indicate a lack of opportunity. Instead, existing funds may offer more meaningful choices where their investment strategies align with prevailing market conditions.

IPOs, mutual funds and equities enter a more selective phase

The second half of 2026 could see greater activity across both primary and secondary markets, but Setalvad's assessment suggests that investors may need to become increasingly selective.

Large-caps have regained relative valuation appeal after a prolonged period in which smaller companies attracted substantial investor attention. Banking stocks are showing improving fundamentals, while IT companies are undergoing a structural reassessment because of AI.

At the same time, pockets of the small- and mid-cap universe continue to offer opportunities despite elevated aggregate valuations.

For AMCs, the challenge is increasingly less about creating another mainstream product and more about delivering differentiated investment outcomes through existing schemes and newer specialised offerings.