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India: the worst-kept secret in the equity market

India: the worst-kept secret in the equity market
Photo: Dhiraj Singh/Bloomberg/Fotoware

There is only one word that can sum up the performance of the Indian economy in 2022 – and that is resilient.

In a world blurred by so many uncertainties, the Indian equity market is one of the few to have navigated the challenges of inflation and supply-chain disruption – to the point where it has produced a 4 per cent return in the past calendar year (versus falls of 8 per cent and 10 per cent for global and emerging market equities respectively). 

This resilience was down to numerous factors – a strong domestic recovery and domestic flows were supported by government and central bank actions to soften the threat of inflation, while the spike in the oil price (India is a major importer) came and went.

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India has been a constant presence in our multi-asset fund range since its launch in 2017. This is for a host of reasons – strong demographics, growth, few geopolitical concerns, strong corporate governance and the growing online economy.

However, this has not gone unnoticed, in fact India is arguably the worst-kept secret in the equity market.

That has translated itself into lofty valuations – versus other emerging markets and its own history. India’s valuation is around 30 per cent higher than its long-term average of 16.7 times since 2004. 

It is also trading at a staggering 80 per cent premium to other Asian economies.

Indian equities have always been expensive due to those positive characteristics I have already mentioned – but these are quite excessive numbers.

That concern has already filtered through – BNP Paribas downgraded its forecasts for India in 2023 from an “overweight” to “neutral” position, based on these “stretched valuations”.

Part of that rationale is also due to the re-opening of the Chinese economy (something I talked about last month).

Marketing itself as an alternative to China, India has been a big beneficiary of the damage done to the world’s second-largest economy in the past two years.

While China’s share of the MSCI Emerging Market Index slid to 28 per cent from 35 per cent between May 2021 and December 2022, India’s rose to 15 per cent from 10 per cent.

Momentum is a major factor; Chinese equities are down 40 per cent since February 2021 – the valuation trigger could lead to some trading away from Indian stocks.

That is the short-term play – but India is almost the perfect example of a long-term growth story, and that is why investors should not be put off by the valuations argument alone.

India is set to become the world’s third-largest economy in the next decade or so, but the outlook for the next 12 months is hardly glum. Latest IMF estimates suggest the Indian economy will grow at 6.1 per cent in real terms – contrast that with 1 per cent for the US.

As a recent investment note from Schroders points out, attempts to increase manufacturing, land and labour reforms, improved tax rates and the Production Linked Incentive Scheme have, or are designed to, bolster the economy in the long term. The same is true of the 'China+1' strategy where companies avoid investing solely in China.