India’s GDP growth came in at 7.7% YoY in 4QFY18, its fastest pace in seven quarters, up from 7.0% in 3QFY18. The pick-up in GDP growth during 4QFY18 was mainly driven by investments (+14.3% YoY v/s 13% in 3QFY18), which rose at the fastest pace in 24 quarters.
Forward Earnings Growth
FY19 is expected to mark the recovery of earnings in India. The worst of bad debt issues will be behind, and earnings of PSU banks and Corporate Private Banks will look better. Recovery in Rural India will drive consumption growth, public spending and the recovery in private investments will drive earnings growth of above 20% in FY19.
India’s high ROE, superior to most emerging markets has been an important differentiator for India’s valuation premium. While presently India’s ROE at 14.2% is below its long period average of 17% and peak of ~27%, it is still above most emerging markets and is expected to improve.
PM Modi’s reform agenda, Strong forward earnings growth potential and high ROE has enabled India to out-perform most emerging markets (EM) since 2014. MSCI India (+11%) outperformed MSCI EM (+6%) over the last 12 months despite global investors pulling back allocations to EM on rising US interest rates.
India has traded at a significant premium to other emerging markets with a historical average premium of ~43% to MSCI EM. The premium is currently at 59% above its historical average. MSCI India currently trades above its long-term average at 18.0 x FY19E PE for MSCI India.
Market Cap to GDP Ratio
India’s Market Cap-to-GDP has increased steadily from 55% in FY09 to 84% now based on FY18E GDP, which is above its long-term average of 78%. The significant increase in India’s market cap by 52% drove the increase in valuations to being fairly-valued.
India Allocation in GEM Portfolios
GEM portfolios have been over-weight India since 2013 on hopes of a change in government. The emergence of a reformist, majority government led by PM Narendra Modi stirred GEM portfolios to increase their over-weight position further. This reduced a tad, on pull back in emerging market allocations.
GEM Investor Country Allocation
India has the third highest allocation in GEM portfolios at 10.3% (10.6% last quarter). Minor pullback in allocation during the quarter could be due to the deteriorating macro. Earnings recovery and benefits accruing from the implementation of some key reform initiatives like GST may see increased focus on India.
Foreign Portfolio Investor (FPI) Flows
Foreign Portfolio Investors (FPIs) sold US$ 0.8 bn YTD CY18, after investing US$7.7 bn in 2017. FPI’s pulled back on global sell off led by rising US interest rates, trump led trade wars, inflationary pressures, introduction of long term capital gains on Indian equities and unleashing of governance issues in state owned and a two private sector banks in India.
India’s currency has been depreciating against the USD and AUD given its inflation differential. The INR though appreciated against the AUD over the past 3 years with interim volatility. The INR after showing resilience against the USD for a long period depreciated recently on deteriorating fiscal and current account balance.