Authored by: CA Punit Khandelwal, CA Sunit Khandelwal and Prof. Divya Aggarwal, MDI Gurgaon (ex-professor EMLV, France and IIM, Ranchi, India)
Assisted by: Jayant Surana and Mansi Shukla
Foreword
We are pleased to issue the 8th edition of the India Equity Risk Premium study (2026), which analyses the risk premium to be considered when determining the cost of equity using the capital asset pricing model.
The study focuses on quantitative analysis to derive the current equity risk premium under different approaches, including a) historical premium, b) survey approach, c) country bond default spread approach, d) country bond default spread approach adjusted for relative country risk, e) domestic market volatility relative to a developed market and f) implied equity risk premium.
Based on current market conditions and considering both past performance and future expectations, we recommend India ERP at 7.00% (6.5% and 7.5% being the lower and upper limits of the range, respectively), effective January 2026.
Given the growth slowdown, geopolitical tensions, and tariff-related risks, it’s plausible that investors demand a premium on the higher side of the range despite lower bond yields.
Impact of macro-economic conditions on our assessment
For the 12 months ended December 2025, Indian equity markets demonstrated valuation resilience even as earnings growth remained relatively subdued.
The Nifty 50 index increased from 23,645 to 26,130, implying capital appreciation of approximately 11% and a total shareholder return of ~12% over the period. In contrast, aggregate profit after tax (PAT) of index constituents is expected to remain broadly unchanged between FY25 and FY26. The observed expansion in market capitalisation in the absence of commensurate earnings growth indicates that returns during the period were predominantly driven by multiple re-rating (Dec 2024 P/E ratio: 21.79; Dec 2025 P/E ratio: 22.75) rather than earnings accretion, reflecting easing discount rates and sustained investor risk appetite.
From a macro-financial standpoint, the average yield on the 10-year Government of India bond moderated to ~6.5% during the review period compared with ~7.0% in the preceding year. The reduction in the risk-free rate provided valuation support to equities and mitigated the effect of muted earnings growth on market pricing.
The forward-looking implied Equity Risk Premium (ERP) for India is expected to remain broadly stable, with a parallel decline in sovereign yields and investor return. The stability in implied ERP suggests that investors have not materially altered their long-term return expectations from Indian equities, notwithstanding short-term earnings softness.
Conversely, the historical ERP has moderated from approximately 7.7% to ~7.4%. This decline is primarily attributable to the incorporation of 2025 realised equity returns (~12%), which remain below the long-term historical average return of approximately 16.5% for the Nifty 50. The addition of this relatively low-return observation to the rolling historical dataset has mechanically compressed the trailing ERP estimate.
Overall, the current ERP construct for India reflects a market equilibrium characterised by (i) stable forward-looking risk premia anchored by declining risk-free rates and steady investor return expectations, and (ii) a modest normalisation in historical ERP driven by recent realised returns below long-term averages. These dynamics form the basis for the January 2026 and forward assessment of equity risk premia in the Indian context.
It's important to note that the equity risk premium can vary over time and across different market conditions. It is influenced by a complex interplay of factors and is subject to market participants' perceptions and expectations of risk and return.
We hope you find the results of our study of interest and value.
