Investing in India: Positioning for a new dawn
July 21st 2012
The Delhi chapter of IAIP organized a Speaker Event in New Delhi on 21st July 2012. The speaker, Navneet Munot, Chief Investment Officer at SBI Funds Management, delivered a very insightful presentation. Both members and non-members of IAIP attended and appreciated the event. The event qualified for 1.5 CE credit hours.
Navneet began by looking globally, where we see a new investment world where economic cycles and market cycles have shortened, correlation between markets has increased, higher volatility and risk premium, more protectionism from governments with re-regulation and de-globalization, and leverage has shifted from private to sovereign balance sheets.
However, the factors in favor of investing in Indian Equities have not changed since 2007. These factors include Young and aspiring consumers, Vigilant regulator, Enterprising corporate, Multi year infrastructure investments, Evolving partner in global value chain and Vibrant democracy.
Negative developments since 2007 include: Rising fiscal deficit (-8%) that’s unsustainable, Policy inaction from govt. (on GST, DTC, Mining bill, Land acquisition, Financial sector reforms, FDI in multi brand retail, airlines, insurance), High current account deficit (CAD of -4.2% in 2012), High inflation (high even when artificially suppressed by govt. administered prices of commodities such as diesel), Tight liquidity, Sharp depreciation of Rupee, Slowdown in growth. Liquidity deficit and high interest rates softened the pace of capital investments, which led to slow down in real GDP growth rate from 9.5% in 2009 to 6% in 2012.
Positive developments since 2007 include: Reduction in public debt levels (from 82% of GDP in 2004 to 65% of GDP in 2011), CAD ex net gold imports is manageable ( -1.8% in 2012), Favorable demographics, High Savings rate (36% of GDP), Rising per capita GDP, Rising incomes (12.6% wage growth yoy), Deleveraging of corporate and household balance sheets, Commodity prices decreased sharply, RTI, Right to Education Act, Move to curb subsidies through UID, Exports becoming much more competitive because of depreciation of rupee. By FY 2014 or 2015, many positive developments in India are expected to happen (GST, DTC, Mining bill, Land acquisition, Financial sector reforms, FDI in multi brand retail, airlines, insurance).
The argument for investing in Indian equities still remains the same as in 2007. In an analysis of factors that have driven Indian markets in the past, Navneet noted that FII flows have been a key driver of Sensex returns from 1994 – 2012. FII ownership of Indian equities in BSE 100 index increased from 10% in 2003 to 18% in 2012. Sensex and Crude oil show a highly positive correlation from 1991 – 2012. This demonstrates a beta play – a play on risk appetite.
Bottom up stock picking has proven to be a highly rewarding and effective strategy for investing in Indian equities. Regardless of the market and economic environment, many companies continue to grow. For example, from 2007 – 2012, the Sales, EBITDA, PAT and consequently the Market Cap continued to grow for select companies such as Page Industries, Jubilant Foodworks, TTK Prestige and Bata India. From 1995 – 2012, a long period across market cycles, the growth in market cap of select companies outperformed that of BSE 100 index by a huge margin. These companies include HDFC bank, Hero Motor Corp, Sun Pharma and Infosys.
Presently. the Indian equity market as represented by Sensex / Nifty is not a true reflection of Indian economy. For many sectors, the % contribution to GDP and % contribution to Market Cap differs. For example, Services (ex-financials) is an underrepresented segment of the Indian economy. Services (ex-financials) contributes 41% to GDP but accounts for only 14% of Market Cap. Historically, the Sector composition of Sensex / Nifty kept on changing drastically from 1995 – 2012. It will be a different Sensex / Nifty in a few years from now. Therefore, newer investment opportunities will keep arising but not all will make money for investors.
Looking forward, Navneet opined that Indian Equities have a limited downside given that valuations are below long term averages, corporate balance sheets have improved their ability to invest and Indians continue to remain underinvested in equities. As of March 2011, the Indian population held only 2.8% of assets in Equities, in comparison to 51.9% in physical assets (gold, property and small business), and 29.6% in Deposits. However, Some developments that can spoil things further include worsening of fiscal deficit, deterioration in global environment, and any sharp rally in commodities (food prices/oil). Navneet liked themes such as Consumption, Healthcare and Asset owners (Quality asset owners with no to low debt on balance sheet).
Navneet also opined that presently, Fixed income also offers exciting opportunities. With increasing liquidity and reduced supply of CDs, Short term money market rates will move downward, and Long term yields will also move down over time with the softening of inflation (commodity prices). Credit spreads are elevated across most segments. Liquidity improvement will lead to spreads in the short end to tighten. Therefore, Top rate bonds (AAA to AA+) in the short to medium segment look attractive. Moreover, when compared to all other countries globally, current high rates in India are quite attractive. In India, Policy rate is 8% (other countries: 0.1% to 0.75%), 10 year bond rate is 8.08% (other countries: 0.74% to 6.04%), Inflation June 2012 is 7.25% (other countries: -0.4% to 3.3%), Fiscal deficit -8.7% (other countries: -1% to -10.3%)
In conclusion, Indian Equities offer a long term opportunity despite current macro challenges. Current Valuations are below long term averages. Bottom up stock picking is better. For Indian Fixed Income, Rate cycle has peaked and core inflation is key. Liquidity premium will subside leading to short term and medium term rates moving down. Long term yields are currently reflecting undue fiscal concerns, and therefore, offer good entry opportunity this year.
Dark clouds are followed by a shining sun and this time is no different.
About the Speaker:
Mr. Navneet Munot is the Chief Investment Officer of SBI Funds Management Pvt. Ltd. He also chairs the Advocacy committee at IAIP. Navneet has over two decades of experience in Indian capital markets.
Contribution by: Manan Agrawal, CFA, IAIP volunteer
Photographs by: Mukesh Modi, CFA, IAIP volunteer