Defense, Railway Stocks Rally May Not Be Sustainable, Warns Ankit Mandholia of Motilal Oswal. Here’s why

Expert view: As the Indian Stock Market Witnessed A Fresh Leg-up from the RBI’s Policy Booster, Ankit Mandholia, Head Equity and Derivatives and Derivatives and Wealth Management, Motilal Oswal Financial Services, Decoder Impact of the Central Bank’s Action on the Economy and Markets. He also warns of remaining cautious and selective following a sharp raly in defense and railway stocks. Here are edited excerpts from his interaction with Mint,

RBI’s move has once again enthused stock market bulls. How do you see its impact unfolding for the markets and economy?

The RBI Surprised Markets With An Aggressive Monetary Policy Move. They slashed the repo rate by 50 Basis points, brings it down to 5.50%. They also announced a staggered 100 Basis points Reduction in Cash Reserve Ratio (CRR) to 3%, which will inject about about 2.5 Lakh Crore into the banking system.

These moves will be beneficial for rate-sensitive sectors like banks and nbfcs by lowering their cost of funds, and reduced finance constable cost first demand for hang and automotive sector. Lower Interest Rates and Esing Liquidity Conditions will spur infrastructure activity and revive consumer Durable Demand as well. Businesses requires working capital or expansion funding will find borrowing more attractive. This Cold Translate INTO Increased Investment, Capacity Expensation, and Potentially Higher Employment Generation.

The RBI maintained its real GDP Projection of 6.5% for 26, while Reducing Its Inflation Projections to 3.7% from 4.0% earlier. This Reflects RBI’s confidence in India’s macro train, and this could drive the broader risk-on

Front-loading of rate cuts by the RBI addresses the need to spur growth and also shows the RBI’s Commitment to MainTaining Price Stability Whail Supporting Growth.

After the Rally in Defense and Railway Stocks, Should Investors Consider Exiting these counters?

The defense and railway sector Saw Significant Gains Over The Past Two Months, Following a Dip in March 2025. The defense sector’s sector’s market cap Hit an all-time in May’25, Recording A Cagr of 55% Beetwen FY19 and May’25. The Railway Sector’s Market Capitalization Rebounded from its lows, recording a Cagr of 46% over the same period.

The India-Pak Tensions (Operation Sindoor), Along with Strong Order Book Growth and A Recovery in Browder Market Sentiments, have fuelled the rearing trends in these sector. Further, The Tentral Government has Front-loaded in the current financial year (FY26), Spending 1.6t in Apr’25, up 61% from 992b in Apr’24. In FY26, The Government is targeting Capex of INR11.2t, a 6.5% yoy growth.

If the positive trend in Capex Continues in the Coming Months, it will be positive for the sector, particularly from the railways and defense sides. Moreover, Defense Companies Are Eyeing Large Opportunities from Exports of Platforms Such as Akash Missile, Mrsam and Defense Control Systems, Where they have already esteblasted their prooduct quality in The domestic markets.

While these sectors have long-term structural tailwinds-Capex Visibility, Policy Push, and National Security Focus-the sharp p/e exampansion rays a flag. A part of the move is Sentiment-Led and May Not Be Sustainable.

We sugges a selective approach, preferring companies with a well-balanseed revaneue mix, control over margins, and the ability to maintenance or improwth profile going forward.

Markets are a slave to earnings. Against this backdrop, do you see the sharp rally in small-cap stocks coming to a halt?

The overall earnings for small-cap stocks declined by 16% yoy in 4QFY25, Falling Short of the Alredy MUmed Expectations. Despite this, the nifty smallcap100 index has surgged over 17% in fy26 – Raising Concerns that the current rally may be resting on fragile fundamentals. This sharp run-up has deprived investors of Valuation comfort, with the one-yar forward p/e for nifty smallcap100 at 25.8x (as on May 2025), REPRESINTIN AIPRESINTING A Premium of 60% to its 10-to its average of 10-16.1x.

The disconnect between price and profits is unlikely to be sustained indefinitely. A broader economic Slowdown or further earnings disappointment in Small-Caps Could Trigger a Quick Reversal, Especially with Retail Money Driving these Names.

We suggest adopting a selective approach, focused towed fundamentally strong small-access and posesibly Increasing Allocation to Mid/Large-Caps, which have better earnings Visibility.

What are the headwinds that could Pose Challenges for the Stock Market Going Ahead?

Indian Stock Markets are Facing Overhang from Global Headwinds, Including Unexpected Shifts in Us Tarife Policies (Including the Recent Doubleing of the Tarif on the tariff on Steel and Aluminum INDPORTS FOMORTS FOMORTS FOMORTS And the ongoing geopolitical tensions Between Russia and Ukraine and the Middle East Countries.

A Strong Us Dollar, High Us Bond Yields and A Hawkish Us Federal Reserve Policy Coul Make Emerging Markets Like India Less Attractive for Foreign Investors.

On the domestic front, corporate earnings growth remains a concern. Nifty50 delivered a 3% yoy pat, reporting a Single-Digit Profit Growth for the Fourth Successive Quarter Since the Pandemic (Jun’20). Consequently, there has been a cut in the nifty EPS Estimate for Fy26. Nifty Midcap-100 and Nifty Smallcap-100 Indices are Trading at 29.3X and 25.8x (as on May’25), Represting Premiums of ~ 30% and ~ 60% to their Respective 10-Year Average, RAISING CONCERNS overvaluation amidst mutth earnings growth visibility. Additional, instability in macroeconomic data, bot on the global and domestic Front could Pose Volatily Risks for the Indian Markets.

Therefore, Indian Equites are Subject to Challenges from Global Headwinds and Modest Earnings Growth, with Stretched Valuations in Multiple Market Pockets. However, Stable Domestic Macros and Improved Corporate Performance Would Support Long-Term Growth Prospects.

How do you interpret the recent fii and dii flows? What does the trend sugges about institutional confidence in Indian Markets?

FII Flows Remained Positive For the Third Consecurable Month, AT UsD 1.7B in May’25, While DIIS Investted UsD7.9B-Their 22nd Consecurable Month of Inflows and The Third-Highest Tally Ever. This LED to a Record 14-Month High Institutional Flow. The amfi data for may’ 25 indicated that Mutual Fund Sip Inflows Remained Strong at Rs26,688c – The Highest Ever Monthly SIP Contribution on record. The two-engine flow dynamic-Steady Dii Inflows Supported By Retail Sips, and Returning FII Interest, Provides Stability to the Market. The Fii Index Futures Positions Remain Well Bell Bell Peak, Implying That Fiis Still Have Room To Scale Up Exposure, and DIIS Appear Well-CUSHIONED to Support Any Corrections.

Disclaimer: This story is for educational purposes only. The views and recommendations made Above are that of individual analysts or broking companies, and not of mint. We Advise Investors to Check With Certified Experts Before Making Any Investments Decisions.