At the cusp of what are widely believed to be elections that transform policy-making and the administrative landscape of the subcontinent, India’s prospects are in stark contrast to the political and socio-economic troubles in several emerging markets (EMs). Perhaps uniquely among EMs, there is likely to be a non-violent regime change, and possibly one that would bring on board a strong government.
We have remained constructive on the broader Indian market, given the steady year-on-year increase in index EPS, a below-average market P/E and a stable if not a marginally appreciating currency. Now, however, given the political and economic challenges in other EMs, India suddenly looks relatively more attractive.
While we continue to expect downward revisions to index EPS in India, the pace of these revisions is far slower than in other EMs, particularly as many EMs have been forced to raise interest rates sharply to avert a currency crisis, and some others like China are only starting to unwind some speculative excesses. Further, forward-looking estimates suggest a much stronger earnings growth trajectory.
Consumer price inflation is out of the double-digit territory, and the high base of vegetable inflation in CY13 suggests that even potential weather disruptions in CY14 rule out spikes. WPI inflation is near four-year lows. While we do not expect inflation to come down anytime soon to levels at which the central bank can start cutting rates, a lower inflation trajectory keeps markets optimistic. Further, at a time when investors are worried about the effect of tapering on EM currencies, the Indian rupee has been remarkably stable and range-bound. India’s current account deficit (CAD) for the last six months has shrunk to $10 bn, ~1% of GDP, annualising to $20 bn/year. The reduction in CAD has been the most dramatic among EMs.
The necessity of and the dependence on foreign capital is, thus, significantly lower than it used to be in the past. This has happened mostly due to weaker domestic demand.
The relative attractiveness among EMs implies continued capital inflows, though external capital requirements have come down with the fall in CAD.
Hopes are high among investors that elections can re-start the investment cycle. Such misplaced optimism ignores the realities of the business cycle and overestimates the powers of the central government. Only a fourth of investment projects under implementation are stuck with the central government; the rest are constrained by overcapacity, balance sheets, or with state