India’s GDP growth moderates putting it at the bottom of the emerging markets table – however, investors can find good value as Indian equity valuations fall below their 10-year average.
India holds the unenviable title of being the worst performing emerging market for the year to date. Indeed, to September 25, Indian equities slumped 46.5% according to the S&P IFCI Investable India index. Nevertheless, far from being a region to steer clear of, Indian equity valuations have fallen below their 10-year average. They represent good value and are attractive from a risk/reward perspective. For the overall market, valuations are below 11.5 to 12 times price/earnings, on a 12-month forward basis.
While significant macroeconomic headwinds exist that may subdue investor activity in the near term, most of the bad news in the marketplace is included in the price. Crucially, given the softening of the oil price, the macroeconomic situation seems to be at an inflection point from which equity market investors might derive support.
India’s economy is going through one of its toughest periods of the past five years. Inflation has hit a 13-year high of more than 12% and GDP growth has slowed to 7.9%. This is the lowest level in more than three years, but still one that would not lose India the title of the second-fastest growing large economy after China.
Growth looks set to moderate to about 7.5% for the fiscal year ending March 2009, from the 9% achieved in 2007/08. As the end of 2008 draws near though, the factors that have contributed to the sharp spike in inflation – in particular the stubbornly high prices of minerals, metals and food items – should soften. Indeed, inflation should recede gradually from its 13-year high to about 7-8% by March 2009, and 5% in 2009/10. With the eye of the central bank fixed on inflation, this may mark the end of the tightening cycle from the authority. Such a softening in the forecast for inflation figures should give the central bank the opportunity to lower interest rates, a broadly supportive move for economic growth and equity market performance.
Nevertheless, the adverse conditions have not diminished the strong interest of multinationals, which have generated $12 billion (£6.7 billion) in gross inflows of foreign direct equity investment during the first quarter of the fiscal year 2008/09. We expect this robust trend to continue.
The stabilising political situation should also lend further support to markets. The Congress Party-led coalition government of Manmohan Singh, the prime minister, won the late July confidence vote. His government’s standing was also bolstered by the 45-nation Nuclear Supplier Group’s recent approval of nuclear imports by India. We expect the general election, due by May 2009, to yield a positive outcome for the Indian economy and markets. Given the vote of confidence and our expectation of a positive election result, further improvements in the reform process are likely. Structural factors underpin our fondness of the market and economy. India boasts more than 5,000 listed companies – including 129 with a market capitalisation of $1 billion – plus a dynamic, youthful workforce with strong academic foundations.
Certain sectors in particular are trading at attractive valuations, and should provide an opportunity to accumulate stocks selectively. India’s young population, rising disposable incomes and changes inattitudes towards spending will continue to drive demand for consumer discretionary items. This should continue despite the anticipated slowdown in the near term. Residential real estate may also benefit from the trend. Order books remain strong and companies should benefit from both infrastructure and investment spending. Capital goods companies still remain on the expensive side, relatively speaking, although valuations have moderated significantly over the past six months. Onceagain, real estate should be a beneficiary of infrastructure and investment spending.
Despite the recent turmoil, India’s economy is catching up with that of China and remains a force to be reckoned with. Despite the prospect of a moderation in growth rates, the Indian economy continues to expand at a rate that far exceeds most developed market economies, especially since many Organisation for Economic Cooperation and Development nations are primed to enter recession during the third quarter of 2008.
The days when India was only bought for its strong performance during periods of strength in developed markets are fast disappearing. As India has built its foreign reserves over the years, it has stabilised many aspects of its economy. This has not only benefited its investors but also its population. India’s emergent middle class has significant spending power that will continue to encourage the country’s accession to developed market status.
Emerging market investments have risks inherent to them that should be fully understood. But for the long-term investor the building blocks of growth that India has laid down should ensure a golden future.