Although allocations to emerging markets (EMs) have gone up for the second straight month, fund managers have lowered allocations for India to what is now an 11-month low. In contrast, Korea’s allocations are at a 21-month high, while China, where both growth and macroeconomic data over the past month has been encouraging, too has won over asset allocators who are now overweight on the world’s second largest economy. To some extent, this is not surprising because India has already been an outperformer for the better part of 2012—so far this year the Sensex has gained 15.56% in dollar terms, making it that much more difficult to get higher returns. The Kospi, in contrast, has returned just 8.82% and Taiex has put on only 5.16%.
The Shanghai Composite, on the other hand, has lost 6.67%. Indeed, with fund managers in risk-on mode and showing an appetite for EM equities, fund flows into India have crossed $18.5 billion, with the Korean markets attracting a shade under $12 billion. At levels of 18,471, the Sensex now trades at around 14.5 times one-year forward earnings—slightly below the long-term average of 15 times—and is more than fairly valued. Unless western economies see very large amounts of liquidity in the near future, it’s unlikely the Indian markets will head up further.
For one, the macroeconomic environment isn’t encouraging and, with the reforms process all but stalled, corporates aren’t willing to invest, so the capex cycle isn’t about to turn in a hurry. Corporate earnings in the September 2012 quarter have been mediocre at best; the top line has risen just 11% yoy while operating profit margins have stayed flat for a sample of 1,821 companies. A fourth of these companies have reported losses, reflecting how stressed industry is. For the 30 Sensex companies, operating profits fell yoy. Clearly, there’s no room for earnings upgrades just now; in fact, brokerages are already pencilling in lower profit growth numbers for both FY13 and FY14. Since the performance of the corporate sector is expected to start showing a meaningful improvement only in early 2014—given that global demand too remains uncertain—the market needs to be re-rated for it to rally. For that to happen, the government needs to get its act together by putting policies in place and fast-tracking clearances for important projects. Investors will be keenly watching the winter session of Parliament to gauge the government’s ability to push through new