India: a bright spot on a dark horizon?, October 2022

Last week, the International Monetary Fund (IMF) described India as a “bright spot on a dark horizon”. Citing its fast-growing economy, even during these difficult times, IMF managing director Kristalina Georgieva added that “most importantly, this growth is underpinned by structural reforms."

And it’s not just the economy that has been doing well while everywhere else has been floundering – the stock market has also outperformed its global peers. Over the past year, amidst ongoing global turmoil, the Indian stock market has managed to stay in positive territory having returned 4.7%*. That’s some 10 percentage points more than the global stock market* and 20 percentage points more than the wider emerging market index*.

Can its good fortunes continue for investors? Here are three contrasting views from fund managers:

Rob Brewis, co-manager, Aubrey Global Emerging Markets Opportunities

“Among the long list of so-called emerging markets, India stands out like a sore thumb. It has all the things we like in an emerging economy: a low-income, fast-growing economy, at an early stage of urbanisation with a young and increasingly dynamic population.

“The current government, and Prime Minister Narendra Modi, is overwhelmingly popular and, in our opinion, among the most competent anywhere. Consider that only 13% of Indian households had tap water in 2015, whereas today it is 52%. For electricity it was 56% in 2015, today it is 96%. Indoor sanitation pre- Modi was 43%, now it is 89%. The Indian government has also grasped the benefits available from technology, and it is that which is undermining the ingrained corruption that has hampered the development of the Indian economy for so long.

“India is also the beneficiary of a couple of current trends. For example, it is not China! Manufacturing is looking for a new, or at least an alternative, home. Top of the list today, other than perhaps Vietnam, is now India which also comes with the promise of future access to its potentially huge domestic market. Physical exports are also growing rapidly thanks to Modi’s ‘Make in India’ thrust. India is targeting $1 trillion worth of exports by 2028, which would represent a compound growth rate of 15% per annum.

“Many complain that India’s valuations are too high. Arguably that was the case late last year, but the combination of lower equity prices and continued strong earnings growth has corrected much of this. We would also argue that you get what you pay for. There are good reasons why India has been consistently among the top performers in emerging markets over the past decade.”

Kamil Dimmich, manager, Pacific North of South EM All Cal Equity fund

“One market we are often asked about is India, where we currently have no exposure. India has benefitted from significant flows as global investors have sold China and switched into the “other 1bn+ population” market. This coincides with heavy domestic retail participation and generally very low free float available in Indian companies due to high promoter holdings. As a result, valuations have become unattractive and there are some potential warning signs of a market bubble even as the rest of the world copes with tightening liquidity. 
 
“A great example of this is Indian self-made billionaire Gautam Adani challenging Jeff Bezos for the position of the world’s second richest person with a paper fortune of US$154bn. This is based on a collection of his eponymous companies which have shot up over the past year and trade on outlandish multiples to earnings despite mundane growth rates. For example, Adani Transmission – an electric grid utility – is on 330x current year’s earnings (or a 0.3% earnings yield), while growing at an unspectacular 10% annually. Like many Indian entrepreneurs, he is a great communicator and has captured investors’ imagination with visions of a new energy future.
 
“The MSCI India trades around 22x current year’s expected earnings which is a record for that market and compares to historic valuations of between 13x and 16x. This compares to the MSCI Emerging Markets index on 11x, roughly in line with historic levels but after the traditionally cheapest market (Russia) has dropped out, while the most expensive one (India) has increased its weighting significantly. As a result, India’s record valuation feels even more out of kilter with its peers. For example, Brazil and Taiwan are trading 1 standard deviation below their historic average valuation since 2005, while India is 1.5 standard deviations above. Or put another way, Indian multiples are double those in Taiwan when historically they have traded similarly or even at a discount.
 
“While we appreciate the Indian macro situation has been bolstered by strong Monsoon seasons and cheap Russian oil, the cost of capital hasn’t changed much from the past decade, with 10-year yields on Indian bonds a little above 7%. As always, we focus on value in the portfolio and find better opportunities in Latin America, the Middle East and other Asian markets which already reflect the challenging global macro situation. While this may not be current market preference, our experience tells us that valuations do eventually revert to mean.”

Mike Sell, manager, Alquity Indian Subcontinent

“I’ve been directly investing in India since the mid-1990s and so have witnessed first-hand the changes in this dynamic economy. There has been the shift from the informal to the formal economy, which will continue along with the move from the physical to the digital world. We have also been researching ‘Make in India’ as an additional theme over the last two years, driven by Modi’s policies, and accelerated by companies’ desires to diversify their supply chains from China.

“Growth in developed markets is clearly slowing, with major economies such as the UK, EU, and US flirting with and/or heading for recession. India represents a stark contrast. The 2022 monsoons have again been successful, inflation is well-controlled, and Modi remains popular and likely to win the next elections, which will be held before May 2024. Hence, India is particularly attractive at this juncture for investors seeking nearer term growth opportunities, in addition to the multi-year, structural growth story that is increasingly familiar, but nonetheless hugely compelling.

“Furthermore, the Indian and Chinese markets are relatively independent (with a correlation of just 0.27 over the last five years). This is logical, given that India is a predominantly domestically driven economy and largely unlinked to China. Thus, investing in India also has the advantage of acting as a diversifier to overall Asian and emerging market exposure which is typically dominated by China.

“Of course, there are risk factors to consider. Although the Indian economy is less sensitive to the oil price than previously, a significant and sustained jump in the oil price would create significant headwinds. Every $10 increase in the price of a barrel of oil would increase the trade deficit by 0.4% of GDP. This would be manageable, given India has $573bn of foreign exchange reserves, but would clearly temporarily dent the investment case. However, over time, India’s sensitivity to oil will diminish as India’s exports rise due to the ‘Made in India’ programme (thus boosting the current account) and as India targets 50% of energy requirements from renewable sources by 2030.

“Valuations for the Indian market are never cheap relative to other emerging markets such as China or [South] Korea, or additionally versus India’s own history. However, we must consider valuations in the context of the multi-year/decade structural growth story which is unique globally (certainly in terms of the size of the overall opportunity, given India’s population of 1.4 billion), as well as much better corporate governance.”

Investors considering Indian equities could look at Goldman Sachs India Equity Portfolio or Alquity Indian Subcontinent, which are on the Chelsea Selection.

Alternatively, Chelsea Core Selection fund Stewart Investors Asia Pacific Leaders Sustainability has 48.7% of the portfolio currently invested in Indian Equities**, while the Aubrey Global Emerging Markets Opportunities and FSSA Global Emerging Markets Focus funds have 42.1%*** and 29.5%*** in India respectively.

*Source: FE fundinfo, total returns in sterling, MSCI India, MSCI Emerging markets and MSCI ACWI, one year to 17 October 2022
**Source: fund factsheet, 31 August 2022
***Source: fund factsheet, 30 September 2022

Past performance is not a reliable guide to future returns. You may not get back the amount originally invested, and tax rules can change over time. The views expressed are those of the fund managers and do not constitute financial advice.