The decade of Indian equities?

Despite its immense potential and outstanding performance over the past 30 years, India remains underrepresented in international portfolios.

2022 is a complicated year for stock markets, including for emerging countries, with a drop of almost 30% at the end of October. Still, one market is holding up pretty well; it’s India. Indeed, the Sensex index lost less than 1% in 2022 in local currency and around -7% in dollars.

In fact, Indian equities are only building on the cumulative outperformance of the last 30 years compared to other emerging market countries, including China (see chart below).

Graph: Cumulative performance of MSCI India (green), MSCI Emergig Markets (blue) and MSCI China (orange) over the last 30 years

What are the reasons for such a performance differential, especially in relation to China? As Wellington Asset Management explains, “In China, everything is done by the government; in India, everything is done in spite of the government”. While China has largely supported the development of its industry in recent decades, this has not been the case for India. With less state support, only those Indian companies that sustainably generate higher capital returns have survived and gained market share. Consequence: the return on capital of the Indian market is higher than that of other emerging countries.

Can Indian stocks continue to outperform?

Many structural and cyclical factors are expected to continue to support the Indian equity market in the coming years.

1. A favorable macroeconomic context

The GDP of the Indian economy is expected to grow by around 7% throughout 2022, a growth rate that is expected to continue over the next few years.

According to Morgan Stanley, India should become the third largest economy in the world by 2027. The GDP could more than double in 10 years, from the current 3.4 trillion dollars to 8.5 trillion.

Graph: Nominal GDP growth in India as anticipated by Morgan Stanley

Source: FT

Among the drivers of this strong growth is a major shift in economic policy away from redistribution in favor of stimulating investment and job creation.

Another element that should support growth: the current political tensions between the United States and China, which put pressure on companies to diversify their supply chains. India is potentially the main beneficiary of this trend and through its “Make in India” campaign it is making significant efforts to attract foreign investment, thus boosting exports of manufactured goods in sectors such as chemicals, industrial machinery, pharmaceuticals and automobiles. A strong workforce of around half a billion people, many of them highly educated young people, underpins this manufacturing momentum. New factories and service platforms created by international companies will not only create more jobs, but also improve productivity. This is a virtuous circle of growth very close to the East Asian model: the increase in exports leads to an increase in wages, consumption, but also savings that are later recycled into productive investment.

India is also increasing its public spending to catch up some of the lag in terms of heavy infrastructure such as roads and railways. But it is above all in the area of ​​digital infrastructure that India is building its comparative advantage. Unlike other economies that rely on private networks, India was the first in the world to build a public digital infrastructure. This is based on its unique digital identification system called Aadhaar.

In terms of inflation, rising energy and food prices have not generated the price explosion that some feared. Notably because India took the decision not to sanction Russia and become one of its main trading partners (more than a million barrels of crude oil imported per day). When the West implemented sanctions, India’s oil minister mentioned that he had a fiduciary duty to his people to provide energy and food at the best price.

Inflation, however, rose from 5% to 8% during the first 9 months of the year. But it has remained, on average, below wage growth and appears to have started to decline.

Graph: Peak inflation (CPI y/y) may be behind us

India has already gone through a deleveraging cycle. As a result, corporate balance sheets are healthier, especially in the banking sector, allowing credit growth to resume. The 2017-2019 crisis involving India’s Non-Bank Finance Companies (NBFCs) appears to be truly over.

Finally, the macroeconomic context is now more favorable to the Indian rupee, even though it has devalued sharply against the dollar this year. India now has record foreign exchange reserves and a stronger current account balance. Current foreign exchange reserves indicate that the country will be able to contain resource outflows and avoid excessive currency devaluations.

2. Relative political stability

Currently, there is no serious opposition to Prime Minister Narendra Modi and his current ‘Bharatiya Janata’ party. Indeed, Modi appears to have every chance of winning the 2024 election.

3. Broadly Favorable Demographics

India’s population has an average age of 28, compared with 38 in the United States and China, 46 in Germany and 48 in Japan. Importantly, the working-age population is also growing, increasing the supply of labor, one of the main drivers of economic growth.

The phenomena of urbanization, improvement of the housing cycle and growth of the middle class are favorable winds for the economy. In the next 15 years, India’s urban population is also expected to increase by 125 million people. Between 2020 and 2030, households’ share of discretionary spending is expected to increase from 24% to 40%.

4. Equity markets: one of the largest and most liquid markets in the region

By market capitalization, India is the third largest stock market in Asia outside of Japan, after China and Hong Kong. It is also one of the most liquid markets in the region. Since the beginning of the pandemic, the market has seen significant growth in the participation of national investors, in particular non-professional investors, who channel national savings to the stock exchange and act as a buffer against foreign capital outflows (see point 6).

It is also important to note that the sectoral allocation of the Indian market is changing, with more internet, media and e-commerce companies likely to enter the market in the next two to three years. Each of these sectors makes up less than 1% of the MSCI India Index, compared to 16-18% each in the MSCI China Index. But most companies ready to go public fall into these sectors and should change the sectoral composition of the index.

Graph: Weight of technology and media sectors in the MSCI India and MSCI China indices

5. A new round of profits for Indian companies

The aforementioned macroeconomic, demographic and geopolitical fundamentals should combine to drive a new round of corporate gains in India. It coincides with the end of the deleveraging cycle that started in 2015, leaving companies in much stronger financial positions than they were a few years ago.

Annual growth in corporate earnings on the S&P BSE Sensex index for the next three years is expected to be 25%. That implies a relative outrun of around 16% against the broad emerging markets index, which is expected to gain 9% a year (source: Peregrine). Corporate profits to GDP are now on an upward trend, after a persistent decline for over a decade. This evolution is explained in part by the reduction of tensions in sectors such as banking and metals. At the same time, the information technology and pharmaceutical sectors continue to increase India’s stature on the global stage.

6. A new enthusiasm for local stock markets

Despite the aforementioned positive outlook, international investors appear to be moving away from Indian equities. But demand from domestic savers amply compensates for the lack of external flows. The Mutual Funds Association of India reported net inflows of $2 billion in September, up 17% from the previous month.

Graph: Flows to the Indian stock market from local savers affiliated with Systematic Investment Plans

Source: Peregrine

Valuation multiples that remain high

One of the main arguments against investing in this market is the relatively high level of valuation. Note, however, that earnings are now at their lowest level in 30 years, which contributes to the current optically “high” P/E valuations of the Indian market. If corporate earnings improve significantly over the next few years, valuations should normalize.


Historically, investors have underestimated Indian equities due to India’s under-representation in emerging indices (11% while GDP is 45%) and a misperception of risks such as liquidity or market concentration.

In the medium to long term, India is expected to benefit from several tailwinds such as digitalisation, growth in direct-to-consumer trade and geopolitical reorganization of supply chains.

The biggest risk for this market is a significant and sustained rise in commodity prices, which could negatively impact India’s current and fiscal accounts and increase inflation.

The ongoing changes in the Indian economy are not fully reflected in the benchmarks. The best way to take advantage of opportunities is to carefully vet companies through fundamental and bottom-up research.

Sources: FT, Morgan Stanley, Peregrine, Wellington Asset Management

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