There’s much buzz around about the so-called BRICS (Brazil, Russia, India, China and South Africa), their overbearing rise and – above all – the recent setbacks experienced by their economies. Lets’ then look more closely at India, in order to find out if and how much can be interesting from an investment point of view.
“Faith is the bird that feels the light and sings when the dawn is still dark”.
This verse by Rabindranath Tagore (1891-1941) may be the metaphor of the Indian growth: faith in a development that would come and that has come, indeed. Let’s start right away with the latest available figures:
- GPD per capita: USD 6161, in terms of parity of purchasing power
- Real GDP growth, year over year: 7.6%
- GDP Deficit forecasted by the end of year 2016: -4.94%
- Consumer Price Index: 5.76%
- S&P Rating: BBB-, with stable outlook – just one notch below investment grade
- Risk-free rate for 10-yr government bonds: 7.8%
- Equity market risk premium over government bonds: 5.28%
- Unemployment rate: 7.1%
- Percentage of population under 15 years old: 28.4%
Source of data: Bloomberg
Booming and blooming
India is the second country in the world by population. In 2009, it had 1,200 million inhabitants, and in 2050 it is estimated there will be about 1,610 million. Moreover, the level of education and use of technology are rapidly expanding. When it comes on GDP growth rates, India is in a “heads up” with China.
India is a country in bloom. The British colonial legacy comprises a deep knowledge of the English language. This makes the country a convenient source of human resources at competitive costs and with a command of the language, in the eyes of global companies. Not surprising then, India the homeland of outsourcing. This huge market and its growth potential attract foreign investors.
Full markets liberalization still awaits obstacles removal. For example, the Indian economy keeps many duties on imported goods, and bans foreign investors from participating in strategic sectors. The state is still too present in the economy, especially in the financial sector. Inflation is still a challenge, even if things go much better today than only a few years ago: let’s not forget that in January 2010 it peaked at 16%. Rising food prices, a phenomenon mainly due both to meteorological factors and to the increasing demand for bio-fuels, hit the poor population. On the other hand, high interest rates generate some concern. Moreover, the containment of the budget deficit is still difficult to achieve, given that the current account balance is structurally negative. Finally, unemployment rates may trigger social instability.
The social and political background
The current center-right government, in office since 2014, is headed by Prime Minister Narendra Modi of the Indian People’s Party (BJP), elected by a solid majority in the House. Among its main objectives, the government aims to:
- Promote greater market liberalization in order to attract foreign capital.
- Spread and harmonize the growth process between the various rural areas of the country.
The economic environment
India ended year 2015 gradually improving. GDP has continued to grow, overcoming in “speed” China. Future growth is seen at a pace authorities forecasts ranging between 7% and 8%: GDP is powered by a strong internal market and an increasing flow of investments from abroad, thanks to the aforementioned policy of liberalization fostered by the government. Also noteworthy is the decline in value of the debt to GDP ratio, plus the fact that more than half of the total debt is held in domestic hands. The public deficit has recently seen a cut from 3.9% to 3.5%, thanks to both continued economic growth and increase in tax revenues. The balance of India’s current account recorded a significant improvement due to the drop in oil prices, which India imports mainly from Iran and Saudi Arabia.
Monetary policy remains expansionary in attempt to reduce inflation, which is a long-lived problem for the country. The goal is to take it down to 5% by 2017, in coherence with the rate cut decided last September by the Reserve Bank of India. Less rosy is the situation of the Indian banking system: nearly 70% of the banks is currently under the control of the Government, and the industry has to deal with a high share of bad loans, which amount to nearly 14% of total loans. In addition, frequent recapitalizations are needed, in order not to backpedal the good growth momentum.
The financial environment
Despite the undisputable importance of the service sector within GDP – especially IT – India enjoys diversification. Following a gradual reduction of government monopolies since 1991, investable sectors flourished, also thanks to the high percentage of well-educated youth labor force. The breakdown by sector of the Nifty 50 index shows the fragmentation of the country’s business.
Data as of June 21, 2016
Let’s now compare the performance the MSCI Indian Stock Exchange index with both the MSCI Emerging markets and the MSCI world indices.
Data as of May 31, 2016
The bond and currency markets
Along the government yield curve, rates range from 7% of the quarterly bond up to 8% of the thirty-year bond: it’s a rather well paid risk premium.
Data as of June 21, 2016
A quick look at the currency exchange ratio allows us to get a clearer idea on the value of the Indian currency, whose exchange rate against the US dollar amounts to 67.49 (as of June 21, 2016) vs. a theoretical value of 26. The Indian rupee is one of the most undervalued currencies.
On one hand, not all that glitters is gold. On the other hand, clouds just hide the sun, but don’t make it disappear forever. Keep your eye on India: it could be a good thing for your investments as well.
Written by: Leonardo Etro – Professor of Corporate Finance at MISB Bocconi