India -  A port in a global storm?

Thursday, October 13, 2011 | Posted by: Grant Thornton
Categories: India, India Watch Issue 14 | Tags: India, investment, growth, emerging markets, GDP, India Economy, healthcare, Capital goods, FMCG, IT services, Listed Indian Companies, equities, developed countries

Indian markets have had a challenging 2011, first on domestic issues, and more recently on ‘global cues’. But how much will global events hurt Indian GDP and corporates? Not as much as expected.

Overall Indian corporates are predominantly exposed to the domestic economy. Looking at the largest 100 listed Indian companies, global revenue exposure is only 24% on average, and that exposure is very sector specific, mainly in IT services, healthcare and materials. Whilst rising rates have taken their toll on pockets of credit related spending, overall domestic demand remains strong, driven by robust services growth, rising incomes, fiscal support for the rural economy and higher middle class aspirations. Although India’s GDP growth is slowing in response to rate hikes, downgrades to GDP forecasts are c.10% to c.7.5% growth v 30-100% downgrades seen in developed economies to borderline recession territory.

Given the extent of current global uncertainties, we suspect India’s domestic exposure will come back into focus for global investors. In the last downturn its domestic exposure meant India’s earnings outperformed significantly. 

Right now the rest of the world makes India look increasingly good.

The list of problems India faces is by no means trivial - with the global crisis added to a domestic list of inflation, rates, slowing growth, earnings downgrades and corruption. This has resulted in bearishness about Indian equities. Yet were becoming cautiously optimistic. This is not to trivialise the issues as they won’t disappear overnight, but India has already been through a lot of pain.

There are now far more compelling opportunities to invest in the Indian market, given a 20% fall and earnings multiples more than one standard deviation below the long-term average. At the broad level it is not all gloom and doom: the global slowdown should help reduce commodity prices, in turn easing corporate margin pressure; we believe interest rates have now peaked, and inflation should start falling in January; India’s GDP growth is slowing, but its differential v the rest of the world is rising; corporate balance sheets are in good shape; and the pace of reform may slowly be picking up.

So how should investors play India’s domestic story? The obvious sector, FMCG, is alas, too obvious, and the combination of domestic focus and defensiveness means it is expensive. We see three compelling themes with powerful structural drivers:
• domestic consumption, through consumer durables, autos and auto components
• rural India, especially through agri related firms, and for the brave
• play the reform agenda through infrastructure, capital goods and renewables.

What about the prospects of Indian firms seeking a London listing?
In the very short term listing conditions are difficult everywhere in the world. But the theme of investors in London listed companies seeking growing exposure to emerging markets generally, and India specifically, is only going to get stronger. The FTSE 350 has seen significant growth in its exposure to emerging markets, by our estimates rising from 14% revenues in 2005 to c. 20% of total sales in 2010. The UK is the least domestically exposed stock market in the world, with only 27% of sales coming from within its own shores. There are now two Indian companies in the FTSE 100. One point that is often missed is that the index of Indian companies listed in London has significantly outperformed both the wider FTSE indices, as well as the Indian local indices. That performance has persisted for three years now. India has its fair share of short-term challenges, but India is all about time horizons – extend your time horizon and you reduce risk and enhance returns. India will grow at 8-9% GDP growth for a generation. The drivers of that growth remain strong, and the investment opportunities for long-term investors remain compelling.

Nick Paulson-Ellis
India Country Head
Espirito Santo Investment Bank
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