After an exceptionally strong rally in 2024, Indian stock markets had become richly valued. Terms like “market froth,” “stretched valuations,” and “overheated markets” were doing the rounds. These elevated valuations were the result of strong domestic inflows, optimistic earnings expectations, India’s robust macros, foreign capital rotation to India, and momentum-driven sentiment.
What followed this outperformance was subdued returns in 2025 – a classic reminder of how richly valued markets hurt the potential for future returns. Corporate earnings fell short of expectations and investor exuberance eased off thanks to global risks and uncertainty, bringing down stock prices.
This cooling off of valuations has created selective opportunities where high-intrinsic-value businesses are available at more reasonable prices. And owning these under-valued businesses can make the difference between strong returns and disappointing ones in the years to come. Why is that?
Investors typically invest in equities for two primary reasons: the steady income from dividends and the potential for long-term capital appreciation. And it is capital appreciation that forms the bulk of equity returns over extended periods. Capital appreciation occurs when a stock’s price rises to reflect improvements in the company’s fundamentals or performance. But if the market price already exceeds the stock’s inherent value, the scope for further appreciation essentially disappears because the price has run ahead of fundamentals rather than moving towards them. In fact, when prices stretch far above business fundamentals, the potential for negative returns increases if those fundamentals fail to catch up with prices. This is why owning undervalued businesses – where price lags intrinsic value – can unlock the potential for price accretion, reduce risk of downside and generate positive long-term returns.
But why does price lag intrinsic value? Sometimes, a temporary setback like a poor quarterly performance or a regulatory delay elicits an overreaction from the market wherein prices are pushed lower than the fundamentals justify. Or during a broad market sell-off, even strong businesses fall along with the index. These are opportunities to buy quality businesses at low prices.
Value-oriented mutual funds tend to specialize in doing just that. Value-oriented mutual funds follow the value investing philosophy and use valuations as the primary lens to assess businesses using valuation multiples, cash-flow measures, balance-sheet strength indicators, and qualitative assessments. They determine, and then weigh the intrinsic value a stock brings to a portfolio in the form of its earnings power, stability, and growth potential against its market price to decide whether it’s worth investing in. If the market price exceeds the stock’s inherent value, these funds will stay away. But if the price trails its fundamental worth, these funds pick the stock for its potential to reflect true business strength and in turn deliver future price appreciation.
Moving into 2026, while corporate earnings are expected to improve, inflation is under control, and interest rates and taxes have become supportive of domestic growth, external uncertainties in the form of global growth slowdown, higher US tariffs, and geopolitical upheavals still remain. And while market valuations have moderated as compared to last year, they still remain on the higher side, prompting investor caution. As such a valuation cushion when picking stocks can be just what investors need to ride out the near-term volatility and reap the long-term benefits of the India Growth story, making a dedicated exposure to value-oriented mutual funds a must.
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Published on December 2, 2025