Dec 12, 2025
• A benign inflation environment provided the RBI room to cut rates in the December policy meeting.
• With supportive policy, India’s economic activity and corporate earnings should improve in the coming quarters.
• We remain neutral on Indian equities as earnings have stabilised and valuations have partly moderated.
• The U.S. job market is slowing noticeably, while inflation remains above the Fed’s target.
• U.S. exceptionalism appears to be fading, and risks in the AI trade are rising.
Recovery in Motion
In India, economic momentum is strengthening, and inflation remains subdued, enabling the RBI to deliver a somewhat unexpected rate cut in its December meeting. With policymakers supportive of growth, both economic activity and corporate earnings are likely to improve in the coming quarters.
Globally, despite ongoing uncertainty around U.S. policy, global markets have performed strongly so far this year. November brought a pause, with equity markets ending mostly flat, though this masks the significant intra-month volatility as investors reacted to shifting Fed policy expectations and concerns about high AI valuations. Although the U.S. government shutdown has ended, economic data remains limited, making it harder for both investors and the Fed to assess the health of the U.S. economy. The Fed nevertheless chose to cut rates as a precaution, citing clear signs of a slowdown in the labour market.
Global Macro Update
The much-delayed U.S. jobs report delivered an upside surprise, with 119,000 jobs added in September, well above expectations of 51,000 and the prior four-month average of 18,500. However, the reporting lag means the data may not fully reflect current labour-market conditions. More timely, forward-looking indicators suggest a weaker backdrop: the NFIB survey points to deteriorating sales, the Fed’s Beige Book highlights layoffs and hiring freezes across several districts, and management commentaries increasingly note that AI is reducing demand for entry-level roles. Together, these signals indicate the U.S. labour market has already softened meaningfully and could weaken further in the months ahead.
US monthly employment in September a surprise
Source: Bloomberg, Sanctum Wealth
Similarly, consumer spending is showing clear signs of fatigue and is likely to slow further in 2026 as the full impact of tariffs unfolds and student-loan repayments resume. Evidence of rising financial strain is already visible: Chapter 7 bankruptcy filings are up 15% year-on-year in the first nine months of 2025, including a sharp 19% rise in September. The U.S. is also on track for around 3 million auto repossessions in 2025, the highest level since 2009, while Fitch reports subprime auto loans more than 60 days past due have climbed to a record 6.7% in October. Collectively, these trends point to mounting pressure on the American consumer.
Meanwhile, high-end retail spending remains resilient, supporting the broader economy. Wealthier households, whose balance sheets are heavily tied to equity markets, have benefited from this year’s double-digit stock market gains. With sizable financial buffers, they could increase spending by 0.25–0.50% in 2026, consistent with typical wealth-effect patterns. However, the spending capacity of this narrow segment is unlikely to sustain broad-based growth indefinitely. As such, the era of U.S. exceptionalism appears to be nearing an end.
Amid the U.S. government shutdown, the lack of fresh inflation data has done little to ease uncertainty. Goods inflation is likely to rise as the delayed impact of tariffs and a reconfigured global supply chain feeds through to manufacturing and retail costs. While housing inflation should moderate and partially offset this, firmer non-rent services inflation is expected to keep overall inflation near 3%, still above the Fed’s 2% target. Importantly, inflation measures the pace of price increases, not their level, and today’s 3% sits on top of more than 4.5% average inflation over the past three years, further eroding disposable income. With growth slowing and inflation proving sticky, the risk of stagflation in the U.S. is steadily increasing.
U.S. CPI inflation has been sticky
Source: Bloomberg, Sanctum Wealth
Despite limited economic data, the Fed delivered a contentious 25 bps rate cut. Two Fed Presidents argued for no change, while Stephen Miran, a dove, pushed for a larger 50 bps cut, resulting in three dissents, the most since September 2019. Fed Chair Powell acknowledged softer labour-market conditions but emphasised that the inflation battle is not yet over. This likely marks the final cut under the current Fed Chair, with the dot plot indicating limited rate reductions in 2026 and 2027. The broader message is that the bar for another cut is now quite high. Still, the policy outlook could shift meaningfully once a new Fed Chair is appointed in May 2026. For now, markets have welcomed the cut and appear largely unconcerned about the future rate path.
Global Market Outlook
Global equity markets delivered a mixed performance as concerns over stretched AI valuations resurfaced. Investors showed a clear preference for defensive havens such as healthcare and consumer staples, signalling a cautious shift in sentiment. The AI-driven jitters also spilled over into Chinese technology stocks. Meanwhile, Japanese equities tumbled, pressured by a sharp rise in domestic bond yields.
Source: Bloomberg, Sanctum Wealth
Above returns are price returns in local currency terms
Considerable debate surrounds whether AI is forming a bubble. History shows that transformative technologies often trigger bubbles, as uncertainty around market size, timing, and eventual winners pushes valuations beyond fundamentals. In fact, a study [1] found that 73% of major innovations since 1825 led to equity market bubbles.
While AI-related stocks, led by the “Magnificent Seven”, have surged and valuations remain elevated, they are partly supported by strong profit growth. The Mag-7 (ex-Tesla) trades at about 33x trailing earnings, well below the 50x+ seen during the 2000 tech bubble, though comparable to episodes such as the Nifty Fifty bubble in the 1970s. This suggests valuations are expensive but may not be the sole driver of any potential reversal in the trade.
Mag-7 valuations stretched but better than Tech Bubble
Source: Bloomberg, Goldman Sachs Global Investment Research
Trailing PE of Tech Bubble Leaders is the median not averages as some of the stocks did not have any profits
So far, AI investment has been funded largely through free cash flow rather than debt, although recent examples, such as Oracle, point to rising leverage. Even the hyperscalers are now looking to debt to fund AI capex rather than relying solely on internal cash flows. Other risks include increasing market concentration, with the Magnificent Seven driving most returns, and signs of circular financing that could amplify volatility if sentiment turns.
In short, only hindsight will confirm whether we are in an AI bubble, but the risks are clearly visible. Unlike previous episodes, however, strong returns have also been seen across other asset classes, including gold, silver, European banks, and Chinese technology stocks. Hence, we recommend a well-diversified global portfolio, with limited tactical allocation to AI at best. This approach enables market participation while providing some downside protection if the AI trend reverses. It may also support a faster recovery in case of corrections.
Japan’s bond yields have surged as Prime Minister Takaichi pushed for more fiscal stimulus while criticizing the Bank of Japan’s rate hikes, sending the 10-year yield to a 17-year high and the 30-year yield to a record level. This has revived concerns about a potential unwind of the yen carry trade, which in August 2024 triggered a sharp sell-off in the Nikkei index and a spike in volatility after the BoJ’s surprise rate hike. This time, however, the BoJ has signalled a gradual normalization path, and markets have had more time to adjust. Hence, near-term risks seem contained. The bigger worry is that if yields remain high, Japan’s already heavy debt burden could become more difficult to service. Moreover, any policy misstep, either a more hawkish BoJ or a looser fiscal stance could still unsettle markets. A reversal in the AI trade could also trigger a quicker unwinding of carry trades, amplifying the global market correction.
Japanese bond yields have spiked sharply
Source: Bloomberg, Sanctum Wealth
India Macro Update
India’s Q2 FY26 real GDP growth came in at 8.2% year-on-year, with nominal GDP rising 8.7% amid subdued inflation. The print exceeded market expectations and outpaced the 7.6% growth recorded in Q1 FY26. Core GVA (GVA excluding agriculture and public administration) expanded by a strong 8.5%, up from 5.6% a year ago, driven by broad-based gains: both manufacturing and services grew above 9% year-on-year. Private consumption remained resilient even as government spending contracted, while overall capital formation rose 7.3%, supported largely by capex.
While Real GDP growth is strong, Nominal GDP growth lagging
Source: Bloomberg, Sanctum Wealth
Despite these headline numbers, high-frequency indicators do not reflect such robust momentum. IIP growth averaged only 4–4.5% during the quarter, and non-food credit growth, though improved at 13.3%, remains below the high-teen levels seen in FY24. Auto sales grew by only 6% year-on-year.
IIP not showing as much momentum
Source: Bloomberg, Sanctum Wealth
Moreover, while real GDP growth is encouraging, nominal GDP is more closely aligned with corporate earnings and underpins fiscal projections. Nominal growth, consistently below 10% in recent quarters, could therefore be a point of concern. Overall, the Q2 FY26 real GDP numbers depict strong economic activity but should be taken with a pinch of salt. Most other indicators point to an improving economy, although the momentum is not as strong as the real GDP growth numbers suggest.
India’s inflation eased sharply in October 2025 to 0.25%, driven by a 5% year-on-year decline in food prices. This deflation largely reflects a base effect, as food inflation had surged to 11% during the same period last year. Core inflation (excluding of food and fuel) moderated to 2.4%, well below the RBI’s 4% target, underscoring a benign price environment.
India’s inflation has moderated significantly
Source: Bloomberg, Sanctum Wealth
The soft inflation data gave the RBI sufficient room to deliver a 25bps rate cut in its December policy, despite robust real GDP growth. Given the strong GDP numbers, markets were divided on the likelihood of a cut, making the move a positive surprise. The announcement of OMO purchases was broadly anticipated amid tightening liquidity caused by FX intervention to support the rupee, but the scale of the purchases exceeded expectations. The RBI plans to conduct OMO purchases of INR 1 lakh crore in December, along with USD 5bn in FX swap to inject liquidity. The RBI also raised its growth projections and lowered its inflation forecasts.
Inflation is expected to remain subdued, and the economic activity is gradually strengthening. The RBI is therefore expected to hold rates for an extended period, barring any significant deterioration in growth momentum.
Indian Market Update
Indian equities bucked the global trend and ended the month in positive territory, although this masked the significant volatility and corrections in the broader market, particularly among small-caps. Private banks, IT, and pharma outperformed as their earnings exceeded expectations. Public sector enterprises experienced the steepest declines, while the consumption sector remained subdued.
Source: Bloomberg, Sanctum Wealth
Above returns are only price change and not total returns
Indian bond yields initially declined following the rate cut and the RBI’s announcement of OMO purchases in the December policy meeting. However, the RBI’s subsequent clarification that the 10-year government bond would be excluded from these operations triggered a broad rise in yields, as the decision disappointed market participants. While most maturities remain below pre-policy levels despite a partial rebound, the 10-year yield has now risen above where it stood before the meeting.
Equity Outlook
Q2 FY26 corporate earnings largely met expectations, with large-cap companies delivering approximately 10% year-on-year growth. Mid-cap companies outperformed large caps, while small-caps lagged. Overall, earnings downgrades were minimal, and the Nifty 50 EPS even saw some upgrades. While railways, consumer durables, and power utilities disappointed, sectors such as oil marketing, agro-chemicals, PSU banks, textiles and building materials delivered clear beats. FMCG numbers were weak but broadly in line, as GST changes and higher input costs weighed on margins. Consumer durables remained muted, but hotels and auto companies reported healthy festive demand and are optimistic for a stronger second half.
Corporate earnings growth improving
Source: Motilal Oswal Financial Services Limited (MOFSL), India Strategy | Review 2Q FY26
Looking ahead, consumption is expected to remain resilient, supported by easing inflation, tax cuts, lower GST rates, potential rate cuts and constructive management commentary. Notably, FY27 earnings downgrades have moderated sharply across indices to a few basis points, suggesting that earnings expectations have largely bottomed and are likely to improve in H2 FY26.
Domestic participation in Indian equities remains strong, even as foreign investors have been net sellers of roughly US$30 billion over the past year, the second-largest outflow on record, pushing both foreign ownership and global mutual fund allocations to near two-decade lows. That said, recent flow reversals suggest improving risk appetite, with foreign inflows beginning to return alongside recovering earnings. Any moderation in U.S. trade tensions could add further support to markets.
As noted in the last monthly commentary, while Indian equity valuations remain elevated, they have eased from their September 2024 peak, particularly in the mid-cap space. India’s valuation premium to the rest of Asia has also normalized sharply, falling from around 85–90% to roughly 45%. Indian equities have also lagged its emerging market peers by 25% in dollar terms given the INR depreciation. Historically, such level of valuation relative to emerging markets and return difference has been associated with moderate outperformance of Indian equities versus regional peers going forward.
Indian Equities have lagged Emerging Market Peers
Source: Bloomberg, Sanctum Wealth
While India has largely missed the AI-driven rally, a sharp reversal in the AI trade would spill over into global markets, including India. In such a scenario, Indian equities could prove relatively defensive and may outperform on a relative basis.
Against this backdrop, we remain neutral on Indian equities and continue to favour large caps. We have closed our underweight stance on mid-caps but remain cautious on small caps, where valuations remain stretched relative to underlying earnings growth.
Fixed Income Outlook
Since the June policy, long-term bond yields have risen as the RBI shifted its policy stance and excess liquidity tightened amid FX interventions to support the rupee. The latest, somewhat unexpected, 25 bps rate cut, alongside sizeable OMO purchases and FX swaps, should help ease yields across the curve, particularly at the longer end. A key overhang remains the heavy supply from state governments, which offsets the Centre’s fiscal consolidation. Simultaneously, stronger credit growth has tempered banks’ demand for government securities.
We expect the RBI to stay on hold for an extended period and believe most gains form duration are now behind us. Long-term yields may soften modestly if state borrowing eases and OMO purchases continue. Credit spreads, especially in the 1- to 5-year high-quality corporate segment, remain attractive, reinforcing our view that corporate bond funds should continue to form a core part of investor debt allocations.
Following the 2023 changes in debt taxation, REITs and InvITs have emerged as attractive alternatives to traditional debt. Publicly listed REITs and InvITs have delivered strong returns in a rate-cut environment, benefiting from their long-duration bond-like characteristics. REITs have additionally benefited from declining vacancies amid the return to office and SEZ rule changes that allow developers to convert parts of SEZs to non-SEZ use.
However, after a strong rally, current post-tax yields of 4–5% do not adequately compensate for the price risks in listed REITs. While some capital appreciation from rental growth is possible, the potential for drawdowns after such a sharp rally is significant, especially as we are at the fag end of the current rate-cut cycle. Hence, in our discretionary multi-asset portfolio, we are exiting Embassy REIT and looking to reallocate to income-plus-arbitrage funds, which offer more stable returns.
Gold Outlook
Gold and silver recovered in November following significant volatility in October. Although gold remains below its recent all-time high of USD 4,326 per ounce, prices have strengthened. We maintain our overweight stance on gold, as its fundamental drivers remain intact. Central banks continue to diversify away from U.S. assets, geopolitical uncertainty is unlikely to subside while President Trump remains in office, and rising U.S. stagflation risks historically favour gold.
Gold prices recovered after October pullback
Source: Bloomberg, Sanctum Wealth
Silver’s fundamentals also remain supportive, with the demand–supply gap expected to persist and industrial demand continuing to grow. Despite the recent rally, the gold–silver ratio indicates that silver still lags gold. However, given silver’s significantly higher volatility as an asset class, we maintain only a small allocation to it within our asset-allocated portfolios.
INR Outlook
The rupee has been Asia’s second-worst performing currency after the Japanese yen, weighed down by muted FDI, heavy FPI outflows, and U.S. tariffs on Indian exports. Looking ahead, FPI outflows are likely to reverse or at least moderate, and the INR now appears attractive on a REER (real effective exchange rate) basis after its sharp depreciation. Based on interest-rate differentials, India’s relatively moderate inflation, now below that of the U.S., also makes further depreciation less likely. That said, with the RBI having drawn down FX reserves to manage volatility, it is likely to rebuild reserves whenever the rupee strengthens, keeping the currency largely range-bound in the near term.
INR worst performing currency this financial year
Source: Bloomberg, Sanctum Wealth
