India is poised for significant growth following the recent general election, as Lynn Strongin Dodds reports
India, Asia’s third largest economy, has long been on the radar screen of investors but it has never quite lived up to its potential. A young dynamic population and burgeoning middle class have driven the economy forward but reams of red tape have stifled its development. Opportunities abound and there is hope that the re-elected government’s reforms will push the country to the next developmental level.
“India has never matched the expectations of China”, said Scottish Widows Investment Partnership emerging markets investment director Joanna Terrett.
The recovery in India is more robust than the developed world and investors should not look at just one asset class to gain access to the growth story
“The biggest hurdle has been the bureaucracy and the knock-on delays. There is definitely hope that the new government will address these issues. If they do not, then the country will not be able to move forward.”
T. Rowe Price International, portfolio specialist Nick Beecroft, said: “The growth prospects have definitely improved due to the election. It was a huge surprise as very few people expected the government to win with such a large majority. This means the government will be able to implement its mandate for change with less influence from marginal parties. In the past, this has always made it difficult to pass policies although it will still take time.”
Election victory
In May, the Congress led United Progressive Alliance (UPA) led by Manmohan Singh’s left-of-centre coalition won a landslide victory over the Hindu-nationalist Bharatiya Janata party alliance, much to the astonishment of the domestic and international community. There was expectation of a hung parliament or another coalition government but instead the UPA won 261 seats in the 543-seat parliament, falling 11 seats short of a majority government. This marked the first time since the 1960s that any prime minister has returned for a second consecutive term in office.
Investors cheered with a 17% stock market rally on the back of high expectations for a new era of fast paced economic and social reforms that would not be hindered by a fractured coalition and divisive politics. Prices have subsequently come down and the optimism is now tempered with a dose of realism. There has already been disappointment over the government’s recent budget and its lack of emphasis on liberalising reforms and privatisation. There are concerns that the focus on spurring growth through fiscal stimulus and higher spending on infrastructure, welfare and job creation programmes, will only exacerbate the already ballooning fiscal deficit. According to the government’s projections, its budget will result in a fiscal deficit of 6.8% of GDP in 2009/10, up from 6.2% a year earlier.
Beecroft said: “There is no doubt that the fiscal deficit is a worry and the government needs to tackle it. However, as long as global liquidity and inflows improve and the government sticks to its pledges of privatisation, then the deficit can be managed. The biggest risk to the fiscal position is if oil prices spike up to $90 to $100 a barrel. My advice to investors is to gradually put money into the country and view it as a long-term investment.”
Mirae Asset Global Investment Management head of equity Gopal Agrawal agreed adding that India has weathered the financial storm better than other Asian countries. “The three main constituents of gross domestic product are consumption, exports and investments. In India, unlike China, the economy is less reliant on exports. They account for only 14% of GDP compared to domestic consumption which is 67%. Investments comprise the rest. This helps explain why the recession in India has been cyclical and not structural as in the West.”
Climate impact
The country’s growth rates in fact have been affected more by the weak monsoon rains and drought in certain parts of the country than the financial crisis. Morgan Stanley recently cut its GDP forecast to around 5.8% in 2009-2020 from its earlier projections of 6.4% in anticipation of a drop in agricultural output. The figure is lower than the government estimate of 6.3% for the current fiscal year ending March 30, and the central bank projection of 6% with an upward bias. Analysts believe it could be at least two years before the country returns to the 9% plus rate of the golden fiscal years of 2005/06 to 2007/08.
Mercer, India business leader, investment consulting, and head of wealth management services, Asia Pacific Hansi Mehrotra, said: “There are two aspects to any investment – valuation and fundamentals and the long-term growth story of India is strong. This is mainly because of the demographics. India underwent a population explosion during the 1980s which has resulted in one of the youngest populations in the world. About half are under the age of 25 and an increasing number are moving into the middle classes. This means higher levels of consumerism which in turn will lead to long-term GDP growth.”
Improving infrastructure
The other driving force is the government’s plan to pump a total of US$500bn from 2008 to 2012 to build and improve its crumbling or non-existent foundations such as roads, airports, telecom, power and energy. According to India’s Finance Ministry, inadequate infrastructure is hampering GDP growth by as much as 2% per year. Figures from the Planning Commission, for example, reveal that only 2%, or 65,590 kilometres, of roads are national highways but carry 40% of traffic, which is why the government has increased the building of highways to 20 kilometres a day from a paltry two.
Not surprisingly, fund managers are looking at consumer and infrastructure related sectors such as telecoms, energy and construction. Other areas of opportunities to be mined are with companies involved in IT, pharmaceuticals, natural gas, chemicals and textiles. Investors should be aware, though, that the Indian stock market is dominated by “promoters” or family owned companies which have a majority owned stake in the company. The limited free float can contribute to huge swings although Mehrotra believes promoter involvement is a double-edged sword. “On the one hand, they have a vested interest in making the company successful, although the flip side is that they might treat it like a privately owned company and do not take into account minority shareholders. However, the country has 6,000 stocks to choose from and investors should focus on fund managers who are strong stock pickers,” she adds.
As for the best ways to gain exposure to the Indian growth story, Kotak Mahindra (UK), director and chief executive officer Shyam Kumar, pointed out: “When you look at institutions that make global allocations, one of the questions they ask is how much should I park in emerging markets. The typical allocation is between 5% to 6%, with India being a sub-set of this. Some investors will choose a broad emerging markets fund while others will make allocations to a regional or BRIC (Brazil, Russia, India and China) fund. I think the weighting to India will change, though, because of the huge potential of growth.”
HSBC Global Asset Management’s head of European consultant relations Chris Gower, however, is seeing more demand for single country funds. “Before the crisis, institutions typically allocated to India via the broader Asian benchmarks that are used as references for investment in this region,” said Gower.
“Any explicit allocations to India tended to be by Asian investors – by and large there was little interest from European and American based institutions. In recent months, though, we have seen a pick-up in activity with clients looking to invest again in the Indian equity market. We have been working with a number of institutional investors that have expressed an interest in our traditional India long-only as well as in our India long/short equity funds. The main difference we have seen post the crisis is that these investors – based in Europe and the Americas as well as in Asia – are now allocating to specific countries – e.g. India –within Asia rather than the broader region.”
India-only funds
There are not that many Indian-only funds, though, in existence. Neptune India Fund manager Ewan Thompson, said: “India has a very wide and liquid stock market, though obtaining Foreign Investor status (and hence access) to the domestic market can be time consuming. Many investors access the market through Mauritius, which has a favourable tax agreement with India, although this is dependent on the fund structure and is a reason why there are few Indian funds available. This also reflects that many investors have yet to realise the exciting potential that India has to offer.”
Watson Wyatt head of the global emerging market team Craig Mercer also believed institutions should explore other asset classes. “Equities can be a poor proxy for capturing GDP growth. Investors need to look at the underlying themes in the market. Exposure to private equity, real estate, infrastructure and currency will provide investors with a better portfolio than just having a pure equity/part bond focus.”
Ashmore Investment Management, head of research, Jerome Booth, added: “The recovery in India is more robust than the developed world and investors should not look at just one asset class to gain access to the growth story. They should invest in a range such as special situations (corporate restructurings through distressed debt, private and public equity and equity linked securities), infrastructure projects and local currency debt. There will also be significant opportunities in the initial public offering (IPO) market when privatisations take off.”
