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Can India maintain status as leading emerging market?

India’s new leader introduces reforms to restore business and consumer confidence. 

In a year when attention shifted back towards emerging markets it was India that led the way, with the MSCI India market finishing 2014 up almost 30 per cent.

A year of transformation saw the BJP party, led by Narendra Modi, win the election with the biggest mandate in 30 years.

Widely regarded as a reformist party, primarily owing to its programme of reforms during its period of government during 1998 to 2004, in his first six months of rule Modi moved quickly to restore business and consumer confidence.

Key developments included the deregulation of diesel prices, allowing 100 per cent foreign direct investment in railways and introducing measures to ease labour laws. Markets reacted positively and versus a flat MSCI Emerging Market Index for the year, the MSCI India Index soared. The Russell Asia Index – India was up almost 48 per cent, making India the best-performing Asian region.

The key question after such a strong year of gains is can be repeated, or does India now look fully valued?

Jorry Rask Nøddekær, who manages the Nordea 1 – Emerging Stars Equity fund, believes India still has the potential to be the single most attractive emerging market, or perhaps global market, over the next three-to-five years.

“The problem for India has never been on the demand side, it has always been on the supply side,” says Rask Nøddekær. “If India can address some of these problems it can really enter a positive cycle and this is precisely where we believe Modi is looking to reform.”

As such India represents the largest overweight in the Nordea fund with a 13.9 per cent allocation at the end of November, against 7.1 per cent weighting in the MSCI Emerging Markets Index. Top holdings including Tata Motors and ICICI Bank.

He adds: “An attractive element of the Indian market is the relatively short link between improved growth and the companies that can benefit from this.”

However, Hermes’ Asia ex-Japan fund manager Jonathan Pines is less convinced about the Indian growth story. He has been reducing his weighting to the country following what he calls a “broad and indiscriminate” rise in stock valuations.

“Although reforms help the economy and thus promote confidence which can provide an impetus to stock prices, even decisive and quickly implemented reforms are unlikely to rapidly help earnings,” says Pines. “And earnings are the ultimate long-term driver of stock prices.”

As such, Pines began cutting his Indian exposure in the Hermes Asia ex-Japan fund in August this year.

He explains: “Reforms seldom help all companies equally. Indeed, reforms beneficial to India as a whole might actually be harmful to some companies. The companies that will do best from reform are those that are currently most hampered by bureaucracy, indecision, delays and the status quo.

“Some of these companies are listed. However, it is possible the largest beneficiaries of reform are small and thus not yet listed. In such cases the benefits of reform will accrue to original owners rather than stockmarket investors.”

Henderson’s head of Asia (ex-Japan) equities Andrew Gillan says India remains one of its most positive markets in 2015, although he admits valuations do also reflect this.

Henderson remains overweight on the country as Gillan says investments in financials, consumer, pharmaceutical and IT services can continue to generate “significant profit growth and superior returns over the next few years”.

“Clearly the risk is the economic reforms stall but the types of companies that we have exposure to have delivered impressive returns even in a weaker political environment,” Gillan says.

“Our favoured holdings include both HDFC and affiliate HDFC Bank, Tata Motor, personal care and healthcare and food products group, Dabur, IT and outsourcing group, Tech Mahindra, and the pharma group, Lupin.”

The World Bank estimates India’s economy will grow from 4.7 per cent in 2014 to 5.6 per cent by the end of 2015 and 6.4 per cent for the full year 2016.

Indeed Rakhee Bhagchandani, the head of business at ICICI Prudential Asset Management, says India is one of the few countries where GDP is expected to go up and interest rates are likely to fall in future.

“India continues to benefit from a large young population, a deep savings pool to finance capital investment, and rising productivity,” Bhagchandani says.

“The government’s focus on tackling infrastructure bottlenecks, well planned urbanisation and a renewed focus on manufacturing could set the stage for higher growth.”

In ICICI’s view it will be sectors such as banking, consumer discretionary and infrastructure including power, defence, utilities and industrials which will be the biggest beneficiaries of the reforms.

Head of research at City Asset Management James Calder notes the “fantastic opportunity” to be had from India, but cautions the area is also fraught with dangers.

“The stable government, the structural reforms, the rising middle class and its aspirations to be wealthier are all positives,” says Calder. “However you also have to take into account the huge infrastructure problems, corruption issues and the lack of political will to change it.”

Cognisant of these factors, Calder says most retail investors will get their Indian exposure via a diversified global emerging markets fund “so if the wheels do fall off, it won’t destroy you”.

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  1. Before you write headlines please check your facts. The leading Emerging Market was (again) China with a gain of 52.87% (Shanghai Composite Jan1 to 31 Dec 2014 4914.85 to 6773.65)

    India’s S&P CNX500 went from 2115.98 to 3234.68 – a rise of 37.82%. So China outperformed India (again) this time by a margin of 40%.

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