Australian Financial Review, June 2008
Few stock markets have suffered more this year than India’s. The Sensex index, India’s main benchmark, is down 25.1% so far this year, which makes the US market’s 7.4% drop look like a walk in the park.
But many investors feel that this drop is a good thing: that it has made one of the world’s most exciting markets look like good value again. India, after all, has some stunning dynamics underpinning it: more than a billion people growing in wealth; a vast and growing middle class bigger than the entire population of the United States and earning disposable income; huge requirements for infrastructure and real estate; and increasingly savvy and powerful businesses from software to pharmaceuticals and telecommunications. It’s just that, until recently, it’s looked far too pricey for such a volatile market.
That’s now changing. “Valuations are looking attractive,” says Arun Mehra, portfolio manager for India at Fidelity Investments, one of the world’s largest asset managers. “The broader market is trading at around 15 to 16 times March 09 [earnings], and maybe 12 to 13 times March 2010. That’s very attractive for the long term investor.”
Adrian Lim, investment manager for Asian equities at Aberdeen Asset Management Asia in Singapore, agrees. “The share pullback has been quite good in that valuations look much cheaper than they were before.” Like Mehra, he says the stocks he likes are now trading at price earnings multiples of 15 or 16 times, “and that’s come off from the low 20s two quarters back.”
Managers like Fidelity and Aberdeen are stock-pickers, rather than following macro trends. So what do they like? For Lim, many of his biggest positions are in software or banking stocks: Satyam Computer Services, Infosys Technologies, and the banks HDFC and ICICI, are among the largest holdings in Aberdeen Global’s India Opportunities Fund (not yet available to Australians, although his selections do feed in to the Asia funds Aberdeen offers in Australia). “The likes of Satyam and Infosys have been doing good work for the last decade or so,” he says. “They have nice growth numbers. They have always battled with wage inflation and attrition for talent, but if you look at their market penetration in the last 10 years they have come a long way. They have a huge base of engineers, their cost savings are very clear and they are not just dependent on the strength of the domestic economy.”
Among banks, he prefers those “that have a strong franchise in deposit-taking” rather than more aggressive investment banks or brokerage houses. That explains the choice of HDFC, a conservatively run group known for its strong returns on capital. ICICI is a more aggressive bank, which has grown quickly and has frequently raised new capital when it has seen opportunities, but which was sold off heavily following sub-prime fears (fears that appear to have been unfounded judging by ICICI’s recent results).
Fidelity does not disclose individual holdings, but Mehra too sees value in the banks. “Some of those stocks are starting to come below book [value]”, he says. “People are assuming the market is going to slow down a lot. But the Indian economy today is not reliant on one particular sector. Property companies might face a cash crunch and struggle, but IT companies are growing. Maybe there will be a slowdown in retail credit and mortgages might go slower, but my sense is loan growth will still be 15 to 20%.” Mehra says IT and pharmaceuticals are continuing to grow rapidly too.
The arguments against this bullishness tend to be macroeconomic. In particular, inflation is a major challenge, and the high oil price is a big problem for a country that doesn’t generate notable quantities of oil itself. The use of subsidies for both food and oil prices mitigates the impact on the overall economy, but some analysts, among them Sailesh Jha, the senior regional economist at Barclays Capital, think those subsidies could be relaxed in the year ahead, which really would have an impact. Jha thinks that inflation coming from commodity price shocks is going to increase pressure on margins in countries like India, and could hit corporate earnings. In such an environment he thinks the Reserve Bank of India, India’s central bank, will opt for curbing inflation rather than encouraging growth. “We believe the central bank’s policy objective will be to contain inflation, and that it will tolerate sub-trend growth if necessary.”
Citi, too, expects some moderation of growth – but hardly to worrying levels. Its global economic outlook and strategy, released in April, expected GDP growth to drop to 7.7% in fiscal 2009, down from an average of 8.7% over the last five years. It expects investment growth to decelerate, and sees warning signs ahead in the widening current account deficit. “This seriously limits room for using currency appreciation to tame inflation,” said Citi in April.
Others, though, see more positive macro trends. UBS has been studying the effects of urbanisation, and ways to invest in it profitably. Simon Smiles, a product manager at UBS Investment Bank and author of a report on the theme, says India is his key country exposure to urbanisation in Asia, “since it is at an early stage of urbanisation relative to the other main investible countries in the region and is likely to remain so until 2010. As the urban area begins to develop, roads, commercial buildings and all the infrastructure that a city needs to service the rapidly expanding population needs to be built.” UBS says that, while 1.57 billion Asians lived in urban areas in 2005, the figure is likely to reach 2.67 billion by 2030.
Whatever your view, those who enter the Indian market need to brace themselves for the ride. This is not by any means a slow and steady market. “The investment thesis we have had, which will be the story for the next 10 years, is that you’re going to make a lot of money but in between will have dips and periods of consolidation,” says Mehra. “I don’t see any reason people will not make money over the long term.”
HOW TO INVEST
We know of only two India-specific mutual funds sold to Australian investors. The Fidelity India Fund had $134.7 million invested in it as of April 30, and feeds in to a fund with a total of around US$3.7 billion in it that Fidelity manages in India. The Australian version was launched in September 2005, although based on Fidelity’s own numbers up to April 30, it has underperformed its benchmark (the MSCI India Index) since inception, over the last year and the last quarter. That said, since it’s up 23.14% annually since launch, investors are probably not overly concerned.
Fidelity does not disclose individual positions but at the end of April its biggest sector holdings were 19.4% in financials, 19.2% in IT, 13.4% in industrials and 13.2% in energy. Less than 1% was held in cash. Management fee is 1.2%, and there is a buy/sell spread of 0.5% to consider too.
The other is the Fiducian India Fund, launched with slightly unfortunate timing in August 2007, near the market’s peak. By April 30 it was down 8.7% over three months, and 12.3% over six.
Structured products often appear in the Australian market geared towards the Indian stock market; Commonwealth Bank of Australia and JP Morgan are examples of houses that have built products linked either entirely or partially to India.
Numerous other Asia or emerging market mutual funds in Australia contain at least some exposure to India. As yet, though, there is no exchange-traded fund available in Australia that tracks the Indian market (a function of the fact that it is not straightforward for foreigners to buy and sell Indian stocks – not quite as difficult as in China’s A-share markets, but tricky nonetheless).
For the same reason, it’s hard to buy Indian stocks individually. However many Indian companies do have American Depositary Receipt listings, which are like ordinary shares and are traded on the New York Stock Exchange. Companies with these listings include IT companies Infosys, Wipro and Satyam; banks HDFC and ICICI; telcos VSNL and Mahanagar Telecom; and the pharmaceutical group Dr Reddy’s. There are also a few New York-listed India funds, such as The India Fund and Morgan India Investment Fund. Buying ADRs over Indian stocks does throw up a range of currency issues, though: movements between the Australian dollar, US dollar and rupee all come into play, none of them especially predictable at the moment.
