The economy of India is the 12th largest in the world, measured by market exchange rates, and the fourth largest in the world measured on a purchasing power parity (PPP) basis (2007 IMF data).
For the five years ended December 2007, the share market for the biggest 100 Indian companies (Sensex Index) delivered far superior returns when compared with the returns from major stock markets (see table 1).
In other words, an investment in India would have grown by just short of 500 per cent on a compounded basis over this five-year period in local currency terms. Not so for the major markets or even the combined emerging market index (currency fluctuations excluded).
In contrast, returns from comparable markets were much lower (see table 2).
The Indian market declined sharply between November 2007 and March 2009, though this was very much in line with other global share markets during the so-called global financial crisis.
The cause for the decline in world share markets is now well documented and the blame lies squarely with a freeze in global credit markets, resulting from poor bank lending policy in the US (and elsewhere) and a loss of confidence in sub-prime (poorer quality) debt instruments based mostly on the US residential property market.
Interestingly, India was not exposed in any substantial way to sub-prime debt. Its banks were well regulated and debt levels were consistently low.
Further, its economy is largely dependent on domestic growth and consumption and, unlike many other emerging economies in Asia, Europe and Latin America, India is not primarily an export-based economy.
Table 3 depicts the decline in the Indian share market when compared with other global markets.
From tables 1, 2 and 3 it can be seen that when share markets rose in value, the major markets delivered much poorer returns compared with India.
However, when share markets declined recently, they all pretty much fell by around the same order of magnitude.
We live in a global village, and cross-border investments that have led to the globalisation of financial markets have become massive.
Capital can be transferred at the press of a button, and can also be withdrawn in the same way, with dramatic consequences. Hedge funds with high levels of gearing come under pressure to meet margin calls or repay investors. Even individuals are not spared.
When economies weakened in the west, funds were withdrawn from the high performance
markets of the east and all investment markets suffered in a correlated fashion.
The probability of correlated downturns in share markets is therefore likely to be high for some years to come.
However, it should be noted that volatility experienced by emerging markets could be considerably higher than for developed markets from time to time.
Following the financial crisis, and stimulatory actions by policymakers across the world, global stock markets have been trending higher since March 2009. Again, the Indian market has been the clear stand out.
Table 4 shows the returns by the same markets in recovery mode (in local currency terms).
While India is an emerging economy, its share market is relatively transparent, ethically regulated and trades up to three to four times the volume of the Australian share market on a daily basis.
It can be seen from the accompanying tables that declines across various markets have been similar in nature, but the recent recovery shown by the Indian market, and growth over recent years, has far exceeded the other markets.
Globally, most economies have gone into recession, deep or shallow, and if they have escaped a technical recession they have remained barely on the fringe.
Only two economies, India and China, have continued to deliver positive growth.
China’s growth is being supported by a massive capital stimulus package, while India is growing largely on the back of its natural domestic consumption. It is claimed that even if no structural reform comes through, India could still be expected to deliver a 6 per cent-plus annual rate of growth.
Asset allocators may ask whether one should take a defensive stance and invest in an emerging market portfolio or a country-specific one like India. Of course, the safe way may be to diversify across 15 to 25 countries.
But is this the correct strategy for an investor who does not need immediate access to capital and is prepared to invest for many more years?
If investors were to invest 1-2 per cent of their total portfolio in an emerging markets fund, the total exposure to India through such a fund would be between 0.08 per cent and 0.16 per cent. This is hardly a large exposure.
Therefore, if there is a capacity to absorb risk and remain invested for five to seven years, investors could consider investing around 2-5 per cent of their total portfolio directly into India (one of the few countries enjoying positive economic growth) and this could help their aspiration for overall asset growth.
Given the recent similarity of investment performance and correlation between share markets on the downside, India stands out as a stellar performer on the upside. It is always better to invest when markets are in recovery mode and after the recent market damage we have experienced, now might well be a suitable time. A sensible exposure to India could well help investors to recover some of their losses faster.
One of the reasons for the recent strength of the Indian market has been the result of its recent federal election.
In May 2009, the results of a month-long, nationwide election for the lower house of India’s parliament were announced. It was the largest democratic election in the world. An estimated 714 million voters (from a population of 1.2 billion) were eligible to cast their vote in one of five separate phases at over 800,000 polling stations.
Logistically difficult, massive in scale, and opposed by various rebel groups, separatists, terrorists and protestors, the election was a success, with around 65 per cent of eligible voters participating.
While analysts had predicted another coalition based on many different factions and a parliament riddled with legislators with wide-ranging criminal backgrounds, the results were quite the reverse. The Congress, promoting itself as one of the cleaner parties with a younger following and an honest visionary leader in Manmohan Singh, emerged with a near majority.
By way of background, India had been under socialist-based policies for an entire generation from the 1950s until the 1980s. During that time, the economy was characterised by extensive regulation, protectionism, and public ownership, leading to
pervasive corruption and slow growth.
Since 1991, continuing economic liberalisation has increasingly moved the economy towards a genuine market-based system. (And this has occurred some 13 years after China opened its economy to the world — so in India’s case, investors appear to be getting in at a very early stage of development.)
From 1999 to 2004, a National Democratic Alliance of more than 20 political parties ran the Government, with each party seeking favours for its constituency based on religious, caste, linguistic and ethnic grounds.
Regulatory reform was a miracle if it occurred, but a benign global economy allowed well above 8 per cent growth per annum.
The next Government, from 2004 to 2009, was run by another coalition called the United Front, led by the Congress party and 13 other political parties.
In particular, the Communist Party of India was a coalition partner. Anecdotally, its goal was to return India to the bullock cart age and prevent collaboration with the west. Yet India still managed to achieve above 8 per cent GDP (gross domestic product) growth per annum.
Share market investors have cause to be jubilant. Now it is possible to bring in judicial and structural reform and, hopefully, reduce corruption to improve the macro environment. Pro-growth policies are expected to be adopted. Agriculture, comprising 17 per cent of the economy, employing nearly 65 per cent of the working population, is to be revived and made to add to the economy, rather than be a drag on it.
Meanwhile, India’s foreign currency reserves reached US$285 billion in 2008. Foreign direct investment, which is mainly used to fund development, has reached US$24 billion for 2007-08. In 2008-09, it is expected to be above US$35 billion.
Well-run companies dealing in infrastructure, equipment manufacturing, telecommunication, healthcare, construction and consumer discretionary items are expected to show substantial profits in coming years, with or without help from the global economy.
The time, therefore, appears to be still ripe to get into the Indian share market.
As always, speak with your financial adviser and take a cautious view so that you can withstand any unforeseen shocks that financial markets may present from time to time.
Indy Singh is the managing director of Fiducian Portfolio Services.
