Foreign investors may rejig allocation to Indian financials: Jefferies

Global financials have significantly outperformed their Indian peers over the past two years, driven by an earnings upgrade cycle, lower valuation multiples and currency depreciation. However, the trend, according to analysts at Jefferies, could be set to change as the earnings growth gap between Indian and global financials narrows.

In US dollar terms, the MSCI ACWI Financials Index has gained 46 per cent over the past two years, wrote Prakhar Sharma and Vinayak Agarwal of Jefferies wrote in a recent report on the sector. Financial stocks in the UK, Japan, China and the US have risen 90 per cent, 96 per cent, 68 per cent and 30 per cent, respectively. In contrast, Indian financials have declined 9 per cent during the same period.

The divergence, the note said, has been accompanied by a broad-based earnings upgrade cycle in global financials. Consensus earnings estimates for the sector were raised by 6-8 per cent during the first nine months of 2026 and by another 2-3 per cent in the most recent quarter.

"Global financials' earnings grew 15 per cent in 2025 and are expected to expand at a similar pace in 2026, before slowing to around 7 per cent in 2027. Indian financials, meanwhile, saw earnings-per-share (EPS) growth of only 7 per cent in FY26. Growth is expected to improve to 9 per cent in FY27 and further to 14 per cent in FY28," Sharma and Agarwal wrote.

Adding: "The earnings divergence partly reflects differences in the interest-rate cycle. Global financials have benefited from an improving economic backdrop and the impact of higher interest rates on net interest margins (NIMs). The earnings upgrade cycle has been broad-based across financial companies in the US, Europe and Asia. "

Indian financials

Indian financials, on the other hand, have lagged amid a falling interest-rate environment, the note said, which put pressure on net interest margins (NIMs), along with pockets of asset-quality stress.

"Financials are a significant component of global equity benchmarks, accounting for around 17 per cent of the MSCI indices. Within the MSCI Financials Index, however, India accounts for only around 2 per cent," the note said.

Sharma and Agarwal believe a normalisation of the earnings upgrade cycle, coupled with an improving growth outlook for Indian financials relative to their global peers, could prompt foreign investors to reassess their allocations to the Indian financial sector.

“Any potential hike in policy rates due to higher inflation could act as a catalyst for earnings upgrades for Indian banks,” the analysts said.

Beyond the core earnings trajectory, clarity on the tenure and succession plans of chief executives at large financial institutions will also be important for the sector, they said.

Besides the upcoming leadership changes at HDFC Bank and Kotak Mahindra Bank, several other large lenders, analysts at Jefferies note,  could see CEO term renewals or changes over the next one to two years, including Federal Bank, Bandhan Bank, IDFC First Bank and Axis Bank.

Among banks, the analysts' top picks are ICICI Bank, State Bank of India and Axis Bank. Within mid-cap banks, they favour AU Small Finance Bank and IndusInd Bank.