Investors in emerging markets will be very aware of the significant underperformance of Chinese equities so far this year as authorities moved to clamp down on regulatory concerns and certain business activities. Yet in India, another developing nation, things have been looking much rosier.
The economy is on an upward trajectory, defying sceptics who believed the nation would struggle to overcome the effects of the pandemic – and the stock market has responded. The Sensex index of leading shares is up around 25% over six months and by almost 50% over one year. There have been even larger gains for smaller companies.
It is quite a performance considering that back in May things looked incredibly bleak. There were grim and tragic scenes of Covid infections spiralling out of control and a healthcare system unable to cope. However, the economy continued to function and following this spike cases have rapidly declined. A vaccination program now in full swing promises to cover the entire working-age population by early 2022.
With this in place, prospects are looking much brighter. India offers scope for a substantial growth opportunity in the form of its fast and increasingly wealthy middle classes. It also has a remarkably young population, meaning it won’t encounter the demographic ‘hangover’ of an ageing population for many decades – something that may beset China much sooner. An added bonus is the high standard of education across much of the population, and that so many people speak the language of business, English.
India is increasingly being seen as a natural alternative to China for outsourcing of manufacturing at a time of growing political tension between the West and Beijing. It’s becoming easier to do business and manufacturing bases in areas such as pharmaceuticals, chemicals and electronics are well established. Meanwhile, the fiscal discipline of government has buoyed the currency and helped insulate it from rising energy prices, which have been a perennial issue in the past. The Modi government has also cut down on excessive bureaucracy, which has helped remove some of the previous headwind to growth. These trends pave the way for enhanced government spending, especially in badly needed areas such as infrastructure.
We took a closer look at some of India’s economic reforms in this article.
Opportunity comes at a price
With the Indian economy in reasonably good shape, jobs being created and income on the rise, the consumer story is particularly interesting. India’s comparatively young and fast-expanding population tends to be an early adopter of technology, something that has only increased during the pandemic. It means there are opportunities for rising consumption in all sorts of areas from financial products to consumer goods, especially if wages increase from what is currently a low base, even in comparison to other emerging markets.
The market is well aware of these apparently rosy prospects, though. The average price-to-earnings multiple of 30 times earnings is expensive at twice that of the MSCI Emerging Markets Index and well ahead of the MSCI World’s 23 times. Growth comes at a price and it may be the market has set a very high bar on earnings growth. However, we continue to believe that some exposure to this important economy is a worthy component of the adventurous part of a growth portfolio.
Fund ideas for exposure to India
Goldman Sachs India Equity Portfolio Fund invests in a wide range of Indian equities including exciting small and medium-sized companies offering strong growth potential – though there is generally higher risk associated with these holdings. The managers aim to outperform through company-specific, fundamental research with stock selection driving results. They believe market-beating returns are earned over time by investing in sound businesses at a substantial discount to their true worth.
The managers are aided by considerable on-the-ground presence in Mumbai and take a rigorous approach to stock selection. We believe the fund’s impressive outperformance is down to exploiting inefficiencies, especially in small and medium-sized companies, and a willingness to deviate substantially from the benchmark index. This has translated to impressive and market-beating performance over the long term, although this should not be considered a guide to the future.
For those wishing to have broad exposure to Asia with India a significant component of this, Stewart Investors Asia Pacific Sustainability may be worth considering. The fund has recently performed strongly in relative terms through almost completely eschewing Chinese stocks and by having around 40% of the portfolio invested in Indian equities.
We admire the manager’s discerning approach to investing in a region where it is easy to become over-excited about growth potential. To them, management quality and valuation discipline are the critical factors to consider for long term investment. This more conservative approach to selecting companies can help curb volatility in what is a high-risk area of investment. It can mean the fund typically lags in a strong market environment, but it can ultimately lead to market-beating returns for investors over the course of a market cycle.
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