Last year will long be remembered as one of transformation for India.
The catalyst for change was the historic national election result in May, when a single political party led by Narendra Modi came to power with an absolute majority – something not seen in the country since 1984.
India has been in the spotlight for global investors since the beginning of 2014, with foreign flows into the country of more than $42bn (£28.3bn) in the year. This could be interpreted as a sign of renewed international confidence in the nation.
India’s recent developments should be viewed as a paradigm shift rather than an incremental change. The structural case for the country has been strong for some years now as it has a large young population, a deep savings pool to finance capital investment and rising productivity. What was missing from the picture was a strong political mandate and a willingness to take advantage of those characteristics.
Last year India voted on the promise of development reforms and economic growth. Prime minister Modi is considered business-friendly, pro-growth and is reputed to have strong administrative skills. He has a stellar track record in the west Indian state of Gujarat, which he governed as a chief minister for more than 12 years.
The government’s focus on tackling infrastructure bottlenecks, well-planned urbanisation and a renewed focus on manufacturing could set the stage for higher growth.
India is in a good position as both its fiscal and current account deficits are on downward trajectories, GDP growth expectations are positive, inflation is softening, while its currency has remained stable.
In addition, the recent fall in commodity prices, especially Brent crude, is beneficial for a large oil-importing country such as India. Every $10 drop in the price of Brent crude results in a 0.1 per cent increase in GDP, a 0.2 per cent decline in consumer prices index (CPI) inflation and a 0.5 per cent change in the current account deficit for India, according to research from Barclays.
After what we saw in last year’s election, the remainder of this year is crucial in India’s path to economic development, with an expectation of better governance, an acceleration of reforms and further improvement in the country’s macroeconomic situation. In February’s Union Budget, the government laid down a road map for policy initiatives, such as a goods and services tax. There were also reforms affecting infrastructure and investment.
While inflation used to be one of the main preoccupations for investors considering India, current prudent fiscal policies and benign commodity prices should help maintain CPI inflation below 6 per cent in the next few quarters.
Inflation was 5.19 per cent in January and 5.37 per cent in February. This spurred the central bank to start monetary easing, with two 25 basis point cuts since the start of the year.
India has the potential to undergo a structural change in the years to come. However, it is crucial for investors to look at the country on a three- to five-year horizon, which should provide enough time for the reforms and resulting growth story to play out.
The country is among the best-placed emerging markets, based on a strong macroeconomic situation and political stability.
India is also among the few countries in the world where growth is expected to rise, while interest rates are coming down. The Indian current account deficit is under control, capital flows are buoyant and the continuing increase in foreign exchange reserves is expected to keep the rupee stable.
As for equity markets, current valuations are fair. Should we witness any weakness in the market on account of global factors, it should be used by investors to enhance exposure to sectors such as the domestic cyclicals, which are expected to be a big beneficiary of reforms.
The only risks for this scenario will be if the government is unable to implement reforms due to its minority in the upper house of parliament, or if there are unfavourable election results in a few large states in the next two years, which could prompt some delays in the reform process.
In addition, a rise in the price of oil to more than $100 per barrel would derail gains on inflation and fiscal consolidation.
Sankaran Naren is chief investment officer of specialist fund house ICICI Prudential AMC, a sub-adviser of Nordea Asset Management
