Year to date, India has been one of the best-performing major stock markets, up around 12% in sterling terms1, while most major markets are down. We believe there are plenty of reasons for its relative resilience.
India’s macro outlook is relatively strong. It is the fastest-growing major economy in the world, with expected growth of just over 7% this financial year. In fact, India has now overtaken the UK to become the fifth largest economy in the world. Given India’s size and growth rate, it is expected to continue climbing the league table, and with current projections it could become the second largest global economy by 2050.
At over 7%, India’s growth is noticeably stronger than China, which has slowed to around 3.5% (for 2022). Furthermore, it doesn’t have the same political risks as China – we haven’t seen the ongoing lockdowns or extreme regulatory crackdowns, and the situation within the real estate sector is completely the opposite, with India having underbuilt for the last decade but now seeing substantial pent-up demand that is fuelling the start of a new construction cycle.
India’s economy is also formalising rapidly due to its fast-paced rollout of digital payment and lending technology. Around 40% of all global digital transactions are made in India, meaning that tax revenue is growing faster, which feeds through to greater investment in infrastructure. India is more resilient to the energy crisis too. The EU and the UK, for example, are paying gas prices more than 7x above normal levels due to the Russian shut-off, but high gas prices don’t affect India to the same extent: while gas represents about 40% in the UK, it only accounts for around 6% of total energy use in India. Instead, India is powered mostly by coal, oil and renewables, all of which have seen smaller cost increases. It is also self-sufficient in food and has enforced export controls to prevent prices from getting out of hand.
Given this backdrop, inflation in India has been relatively contained, at just 7%, compared to over 10% and rising in the UK. India’s government bonds also provide a positive real yield and might be included in JPMorgan’s GBI-EM Global Diversified Bond Index later this month, which could bring as much as $30bn of passive inflows.
In terms of headwinds, as a large net importer of oil, you might expect India to be hit hard by rising oil prices. However, high oil prices are much less of a concern for India than in the past, largely due to export growth. India is seeing significant growth in IT exports – twice as much as spent on oil last year – as well as strong growth in manufacturing as a direct result of disruption in China.
So, how is this positive macro backdrop translating into companies’ earnings? Overall earnings growth was around 30% for the June quarter, from a low base, with wide variance between sectors. Companies with a high weight of commodity inputs in their cost base such as textiles, cement and airlines have faced a margin squeeze, whereas financials and companies supplying higher income consumers or with strong brands have posted very good numbers. Companies are starting to pass on some of these input cost pressures through price hikes, so we expect to see some improvement in margins in the coming quarters.
In terms of valuations, while India has always traded at a premium, we believe this is for a good reason given its long-term growth outlook. Around a decade ago, Indian equities were trading at around a 25% premium to UK, but they still outperformed UK equities by around 150 percentage points on a total return basis for that same period2 , despite much lower dividend yields. It’s therefore important to take a longer-term view on valuations and earnings growth. In our strategy, we continue to focus on identifying growth at a reasonable price, often looking at areas that are less well researched, such as small and mid-cap stocks, which tend to trade at more reasonable levels than some of the mega-cap stocks in the MSCI India Index.
This year so far foreign investors have sold around $28bn worth of Indian equities, but the market has held up pretty well because locals are still investing in equities. Furthermore, in the long run, there’s a lot of scope for this trend to continue given that overall household savings are around 20% of GDP or $700bn, and only about 6% of this is allocated to equities, compared to the 30%+ that is typical in big developed markets. Over time, the rising share of equity allocation could be a powerful tailwind for Indian equities that could help to insulate them to some extent from global volatility, as we have seen so far this year.
1Source: FE Analytics, MSCI India Index (sterling terms), to 07.09.22
2in sterling terms
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