Mugunthan Siva | India Avenue Invest | www.indiaavenueinvest.com
India has recently taken over the reigns from China as the world’s fastest growing major economy. However, there are some distinct differences to note. China’s growth was driven by manufacturing and exporting the cheap cost of labour. Over the next two decades, India’s growth is likely to be driven by a youthful and aspirational demographic as well as the need for significant infrastructure development (recently stated at US$1.4trillion over the next 5 years) to enhance urbanization.
India’s attractive growth story when considered relative to the current plight of the rest of the world, resonates far more. The IMF forecasts that most other major economies are going to grow at 0-3% over the next 5 years, whereas India averages above 7.5%. China which has long held the baton as the leading GDP growth nation is now experiencing lower growth from a higher base.
As a result, GDP per capita in India rises by 75% from 2017 to 2024. Compare this to Australia, with a rise of just 24% over the same period. This will mean a significant wealth shift as experienced by the Chinese over the last few decades. As GDP growth above population growth leads to significant wealth rises, you can expect to see corporate profitability accelerate, with companies benefit from rising purchasing power.
Why exactly is India’s GDP growing at such a frenetic pace?
This is being driven by country’s youthful population (1.3 billion, with an average age of just 29) and its consumption behaviour of goods and services. Additionally, the Government spends significantly on infrastructure as this de-bottlenecks inefficiencies in the economy over time and can allow the economy to absorb an even faster pace of growth. Finally, the current Government of India, driven by Prime Minister Narendra Modi, has been focused on significant economic reforms to transform India’s bureaucracy, logistical nightmare and high cost of doing business into a more transparent economic system. This should lead to greater local and foreign private investments into India.
Access India’s Growth through Listed Companies
With corporate earnings of Indian companies averaging 12.5% p.a. over the past 20 years (which is approximately the growth in nominal GDP over that period), it is possible to say corporate performance is reasonably correlated to economic growth in India. This means that an easy and liquid way to play the growth story is through India’s stock market. Companies listed on the National and Bombay Stock Exchanges of India (India has two stock exchanges) continue to benefit significantly from rising consumption, infrastructure and exports to the rest of the world.
Australians are under exposed
Australian investors continue to have minimal exposure to this growth story, with their Super Funds holding on average less than 0.5% in listed Indian companies. This is despite the fact that India is now the world’s fifth largest economy in the world after USA, China, Japan and Germany. This is puzzling given the low correlation between the Australian economy and the Indian economy, which forebodes well for building a more diverse portfolio. Australia benefits when commodity prices rise and has a smaller, aging but already wealthy population.
However, India is the opposite, with a young, significant population and is a commodity user. This is reflected in the correlation between Indian equities and Australian equities. For example this correlation of 0.36 over rolling 3 year periods is well below the correlation between Australian equities and Emerging Market equities (0.66).
Why India Now
There are also several reasons to consider a 5 year plus investment in Indian equities right now. Whilst the investment is a long-term structural story, the following points illustrate that right now tailwinds align even on a shorter to medium-term basis:
- Reducing political risk, post the National Elections in May 2019;
- Lower interest rates given structurally reducing inflation;
- Rising corporate earnings to GDP from a low point in the business cycle;
- A lowly correlated currency which adds diversity to an Australian investor’s portfolio;
- Significant benefits from reforms and infrastructure push post elections
This creates an enticing entry point with a long-term horizon in mind, especially in an environment where global economic growth is set to weaken and equity valuations elsewhere in the world are rich relative to the earnings growth on offer.
Best way to play the growth story
Whilst India is an economy which is growing in an unparalleled manner (compared to other major economies), it can be hard to navigate for an investor. We hear enough stories about poor corporate governance, fraud and issues which are difficult for us to understand here in Australia, due largely to cultural differences and market practices. For example, did you know that 50% of India’s stock market is held by founders of listed companies. Thus, a strong knowledge of corporate behavior, treatment and respect of minority shareholders, business acumen and management style are desirable to understand in assessing the impact it can have on a company’s share price.
Local knowledge, insights and understanding of cultural nuances is very important for successful stock picking in such a region. Our investment experience can be far more powerful when benefitting successfully from inefficiencies of investing in a developing market like India’s.
As governance improves and better business practices are encouraged, several companies, listed in India, are benefitting from better valuations. It’s important to identify these early. Investing in an Index or a passive ETF to access markets like India is hardly going to provide the necessary acumen for long-term optimal results. It also creates a reason to sell if investors don’t understand what’s going wrong – especially without the necessary insights and education.
Just being “safe” and buying the large and liquid stocks in a market like India means essentially you are buying the companies which are already largely discovered by brokers and foreign investors around the world. Largely the potential of these businesses is reflected in their market prices. Additionally, several of these large companies have a significant portion of their revenues generated overseas as their business grows into a conglomerate. Is this really investing in the India story, or more investing in already successful businesses, domiciled in India – with a market price that largely reflects their opportunity?
Playing the growth story should be done with through the benefit of local insights and presence, which will not only decipher the ecosystem far better, but will present far more opportunities in a stock market with 6,000 listed companies than just selecting from the top 50 companies by size. Be informed, be educated, stay invested in this long-term story.