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Why the Investment Case for India is on Track
Global markets generally performed better than expected this year, despite concerns surrounding the longer term impact of COVID-19. Markets can take a breather on the back of lingering concerns of the Delta variant in Asia, and the US Federal Reserve's intentions on tapering. As investors digest the ongoing market developments in commodities, particularly for oil, a sharp increase could result in higher inflation, as well as a significant jump in trade deficit in the coming months. However, any impact in our view is manageable and something we would consider as an opportunity, rather than a headwind.
Beneath the headlines, one of the most exciting growth stories in Asia is developing within India—driven by superior demographics, a rising middle-class population, low household debt and a progressive government.
The devastating COVID-19 wave in 2020 and early 2021 took some sheen off India’s growth story. However, the economy is slowly bouncing back on the back of prudent pandemic management by the government by virtue of localised lockdowns and a massive jump in daily vaccinations. COVID-19 cases, after peaking at 400,000 in May 2021 are now below 40,000, primarily confined to the Southern state of Kerala.1 As of mid-September 2021, 60% of the population above the age of 18 years have got at least one dose with a total of nearly 800 million doses being administered till now.2 Daily vaccinations improved significantly from April-May to 5.2 million doses in August, while in recent weeks in September have seen vaccinations as high as 7 million-10 million a day.3
Should the vaccination pace continue on this trajectory, risks of a severe third wave during the festival season in October and November could be significantly reduced.
Despite a Severe COVID-19 Wave, Indian Markets Were Resilient
We believe this was due to several reasons:
- India is well positioned for economic recovery, driven by negative real interest rates, robust forex reserves, and strong pent-up consumer demand. Moreover, limited capital investments in recent years should lay the foundation of a new investment-led economic cycle.
- The sheer construct of the Indian market played a big part. When domestic cyclical stocks in the consumer and financials space came under pressure as a result of COVID-19, global cyclicals stocks such as software services and commodities did well due to a buoyant global outlook.
- As the second COVID-19 wave eased, property registrations in Mumbai, Maharashtra and Delhi also crossed June 2019 levels. Realty website traffic was also above pre-COVID levels, indicating underlying housing cycle strength.4 This benefited property developers as well as supporting industries.
Mid- to Long-Term Drivers for the Economy
In the period 2015-2019, we saw economic disruption from demonetisation, the implementation of the Goods and Services Tax (GST) and a clean-up of the prior cycle’s corporate debt. That said, the benefits of digitisation, infrastructure, and electrification are yet to be felt in the economy. We believe there are limited historical excesses, while a low level of household leverage at 18% could ensure a quick economic recovery in 2021-2022.5
Make in India Programme
Pre-COVID, the Make in India programme was gaining some momentum which gave us reasons to be excited about the economic prospects of India’s manufacturing sector. The expectation post-COVID is that we could see a realignment in global manufacturing—India could potentially benefit from the shift in manufacturing and supply chains by offering comparable, or better terms than other regional countries in South or South-East Asia.
Initially launched for mobile phone manufacturing, the government extended the Production Linked Incentive (PLI) scheme to 10 sectors, with incentives amounting at 5-10% of sales over the next five years to promote domestic manufacturing.6 The sectors include automobiles and automobile components, advance chemistry cell battery, steel products, air conditioners (ACs) and LEDs, pharmaceutical drugs, telecom and networking products, electronic goods, food processing, textiles, and solar PV cells. Domestic value addition is expected to grow from the current 10-15% to 35-40% in the case of mobile phones and 45-50% for electronic components, in our view.7 On the consumption front, we think PLI could create 200,000 direct jobs and 600,000 indirect jobs over the next five years.
Internet Sector: Value Creation Likely for the Next Decade
India's internet sector is at an inflection point—we could be set to witness hyper-growth in the coming years, as technology companies steadily disrupt traditional services. A supportive government, a young, tech-savvy population with over 60% of Indians below 35 years, the ongoing digitisation of small-to-medium enterprises (SMEs) and a well-funded private equity-venture capital ecosystem suggests that the stars are aligned to create investor value in the coming decade.8 On top of this, the majority of tech models are focused on the top 100 million affluent users.9 These are now expanding to cater to the next 100-200 million as credit availability is helping drive usage.10 E-commerce is also a huge growth driver. The sector is expected to become the third-largest online vertical to the tune of US$107 billion by 2025, followed by fintech and logistics.11
There is a clear, robust pipeline of tech initial public offerings (IPOs) in India, with COVID-led disruption in 2020 providing a significant tailwind for some internet companies. Our team's learning while investing in similar business models in China and Korea is a strong advantage while evaluating such opportunities in India.
Long-Term Investment Case Remains on Track
We are positioned for impending cyclical recovery in our Indian portfolios. With rising income and premiumisation in the coming years, we believe the Indian consumption basket will shift away from basic sustenance items such as food to more discretionary consumption items such as consumer durables, jewellery and autos. This is set to the benefit leaders in these nascent categories.
Despite the huge impact caused by the virus, during the April-June 2021 COVID-19 wave, consumption was quick to bounce back after the economy opened up. In India, the top 20% of population accounts for nearly 60% of consumption.12 It is an encouraging sign that the population segment, as with other parts of the world, has seen a positive wealth effect in the last 18 months. This has influenced higher spending, against a sustained low consumption period around Autumn 2020, to buy property, and consumer durables such as air conditioning machines, refrigerators and automobiles.13
On the back of a big global push towards digitisation, we also have a buoyant outlook for the Indian software sector. A fertile internet start-up environment has further exacerbated demand for a skilled, coding talent pool, boosting wages in this thriving sector.
Outside of consumption, we consider capital investment, infrastructure development and housing as a multi-decade opportunity. We continue to be overweight financials, real estate and industrials—sectors which could potentially benefit from an improving economic outlook and market consolidation.
India has shown a strong absolute and relative performance against other emerging markets since March 2020, with valuations at a higher end of the historical range. However, with a progressive government committed to making the country an attractive investment destination, along with an economy at the bottom of 13-year economic cycle, investors may be positively surprised by the strength and longevity of this economic recovery.
Overall, the long-term investment case for India remains on track. A combination of India’s demographics, the Make in India programme and progressive government policies reinforces why we think India is one of the most exciting growth stories in Asia.
2 Ministry of Health and Family Welfare, August 2021.
4 Source: Knight Frank, July 2021.
5 Source: Jefferies India Research, March 2020.
6 Source: Press Information Bureau (PIB), Government of India, November 2020.
7 Source: Ministry of Electronics and Information Technology India, Investec Securities Research, October 2020.
8 Source: Ministry of External Affairs, Government of India, June 2021.
9 Source: Bank of America Merrill Lynch Research, February 2021.
10 Source: Bank of America Merrill Lynch Research, January 2021.
12 Source: CEIC, April 2021.
13 Source: UBS Evidence Lab, August 2021.
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