There is a particular discomfort that attends a strong market. The mid-cap segment of the Indian equity market has compounded handsomely over the past three years, and with that performance has come a familiar pressure — to extrapolate, to assume that what has worked will continue to work, and to mistake a rising tide for skill. We write this letter not to forecast the next quarter, which we cannot do, but to set out plainly how the firm reads present valuations and what that reading means for the portfolios in our care.
The Nifty Midcap 150 trades, as of this writing, at a meaningful premium to its fifteen-year median multiple on trailing earnings. Premiums of this kind are not, in themselves, a reason to sell. India is structurally a faster-growing economy than it was a decade ago, the quality of mid-cap balance sheets has improved, and domestic flows through systematic investment plans have lent the market a steadiness it once lacked. A higher multiple can be entirely rational. The question is always whether the premium is supported by durable earnings or by the expectation of further re-rating.
What the multiples are telling us
When we decompose returns over the trailing three years, the larger part has come not from earnings growth but from expansion in the multiple investors are willing to pay. That is the part of a return that history teaches us to distrust. Earnings can compound for decades; multiples cannot expand indefinitely. A portfolio whose gains rest disproportionately on re-rating is a portfolio that has, in effect, borrowed its returns from the future.
This is not a uniform picture. Within the mid-cap universe there remain businesses trading at sensible prices relative to their through-cycle earning power — capital-light franchises with pricing power, conservative balance sheets, and managements that allocate capital as owners rather than as custodians. We continue to hold these with conviction. It is the more speculative cohort — companies priced for a perfection they have not yet demonstrated — where we have been reducing.
The discipline of patience is not the same as inactivity. It is the willingness to do nothing when nothing is the correct thing to do, and to act decisively when valuation and quality align.
How we are positioning
Over the last two quarters we have trimmed the most extended positions in client mid-cap allocations and allowed cash to rise modestly within the bounds each investment policy statement permits. This is not a call on the index level; we hold no view we would stake a client's capital on as to where the market trades by year-end. It is, rather, a response to the simple arithmetic that a position offering a narrower margin of safety deserves a smaller place in the book.
Where we have added, we have favoured businesses whose valuations had been overlooked precisely because their recent performance was unremarkable — the unglamorous compounders that do not feature in the month's commentary. We have also lengthened, marginally, the duration of the fixed-income sleeve, on the view that the rupee yield curve offers a more attractive risk-adjusted return at the present moment than the marginal mid-cap rupee does.
A word on temperament
The hardest part of this work is not analysis. It is temperament — the capacity to hold a considered position when the market is rewarding the opposite behaviour, and to resist the quiet pull of consensus. A client who entrusts capital to the firm is entitled to expect that we will not abandon a sound framework merely because it has been, for a season, out of step with the crowd.
We remind ourselves, and our clients, that the purpose of the exercise is not to capture every rupee of a rising market. It is to compound capital across a full cycle with an acceptable risk of permanent loss. By that measure, a degree of present caution is not timidity. It is the price of being able to act when the opportunity is genuinely attractive — which, in our experience, it eventually is.
We will revisit these positions at the next quarterly review, and as always we welcome the questions of any client who wishes to discuss how this thinking applies to their particular policy statement.
This letter is prepared for information only and does not constitute investment advice, an offer, or a solicitation. Investments in securities markets are subject to market risks; read all related documents carefully before investing. Past performance is not indicative of future results. Figures and positioning described are illustrative and may not reflect current portfolios. David Holdings Pvt. Ltd. is registered with SEBI; please refer to the firm's risk disclosure document for full details.