SBI Funds’ Sentiment Tug-of-Warprojects early-teens annualised equity returns over three years as valuations ease.
MUMBAI, Oct 15 (The CONNECT) – Indian large-cap stocks could be approaching a turnaround after a prolonged period of subdued returns, with moderating valuations, record foreign investor short positions and improving earnings expectations pointing to potentially better returns over the next three years, according to SBI Funds Management’s October 2026 asset allocation outlook.
The report, titled Sentiment Tug-of-War, projects early-teens compound annual growth rate (CAGR) returns at the large-cap index level over a three-year horizon. Its asset allocation framework favours a 60:40 mix of Indian equities and fixed income, compared with a benchmark allocation of 50:50.
The report identifies a growing divergence in market signals. While overall equity sentiment remains neutral, indicators specific to large-cap stocks point to heightened pessimism, creating the possibility of a recovery if sentiment improves.
Three-year returns from the Nifty stood at just 6% annually at the end of September 2026, the lowest level since 2020. SBI Funds Management sees such subdued performance as a potential contrarian indicator, suggesting that investor expectations may have become sufficiently pessimistic to improve prospective returns.
Foreign portfolio investor (FPI) positioning reinforces this assessment. Net short positions in index futures have reached record levels, reflecting strong bearish bets on the market. The report argues that extreme positioning can sometimes signal an opportunity because much of the negative sentiment may already be reflected in market expectations.
Valuations have also moderated from the elevated levels seen in mid-2024. SBI Funds Management uses the spread between equity earnings yields and government bond yields to assess the relative attractiveness of stocks and fixed income.
Its Shiller earnings-yield spread stood at the 47th percentile of its historical range at the end of September, close to its long-term median. The trailing earnings-yield spread was at the 28th percentile, indicating relatively attractive valuations. Together, these measures place equities in what the report describes as moderately cheap territory.
However, the broader market presents a contrasting picture. The Sensex’s total market capitalisation as a proportion of the BSE 500’s stood at 36% in September, against a historical average of 47.2%. The report interprets this unusually low ratio as evidence of sustained relative outperformance by the broader market, offsetting the pessimistic signals from large-cap stocks.
Earnings expectations offer another source of support. The Earnings Revision Index, which measures the proportion of large-cap companies receiving upward earnings-per-share revisions, recovered to 53% in September from its May 2026 low. This indicates an improvement in analysts’ earnings expectations and helps explain why the overall sentiment measure remains neutral.
Initial public offering (IPO) activity has also remained elevated despite record FPI short positions. According to the report, domestic investor flows and demand for mid- and small-cap stocks have supported primary-market activity, providing another counterweight to bearish institutional positioning.
SBI Funds Management cautions that valuations and sentiment have eased from their 2024 extremes but have not reached the exceptionally pessimistic levels seen after the Covid-19 shock. Investors, therefore, should not expect a repeat of the outsized returns associated with that recovery.
The fund manager’s asset allocation framework has maintained a 60:40 equity-to-fixed-income mix since the first-quarter 2025 market correction, compared with a defensive 20:80 allocation going into 2025.
The report’s central argument is that the next market opportunity could lie in large-cap stocks, where pessimism is most pronounced. Whether this develops into a sustained revival will depend on earnings performance, valuations and changes in investor sentiment. The projected returns remain an outlook, not a guarantee.
