India: Emerging Market Opportunity

by: Asif Suria

My recent visit to India was quite an eye opener, as I had not visited certain parts of the country in almost a decade. I came across multiple opportunities for investors and will detail some of the broad themes in the paragraphs below. Some of these themes can be captured by institutional investors and non-resident Indians (NRIs) who can invest directly in Indian stocks (with some restrictions), while other opportunities are applicable for retail US investors who can use ADRs and closed-end funds.

Hotels: While I expected to see a lot of changes, the magnitude of change and especially the Indian stock market caught me by surprise. In fact I was surprised even before I landed in the southern city of Chennai. While looking for hotels in Chennai and Mumbai, I was shocked to see that some of the five star hotels cost upwards of $400 per night or about the same as the Waldorf Astoria in Manhattan. Even a standard room at the Courtyard by Marriott in Chennai costs more than $220 per night. Considering that US taxes pale in comparison to the taxes paid on hotel stays and airline tickets in India, the total tab works out to a whole lot more.

Hotels in India (especially in the four metropolitan cities) are currently experiencing near 100% occupancy, are charging an arm and a leg even by US standards, have access to cheap labor and are planning on increasing their rates by 25%. To top it all most of them are booked solid through March 2008 in Delhi and Mumbai. I am sure hotel and movie theatre company Marcus (MCS) would kill for an operating environment like this. In the absence of an international REIT that captures this theme, institutional investors and NRIs could consider investing directly in stocks like Royal Orchid Hotels [BSE: 532699], Taj GVK Hotels and Resorts [BSE: 532390] and Viceroy Hotel [BSE: 523796]. Royal Orchid was a company that California based Sequoia Capital had invested in and brought public.

Volvo AB (OTCPK:VOLVY) $15.10: A little over two years ago, when I featured Tata Motors (NYSE:TTM) as an investment for the December 2005 of SINLetter, I mentioned Volvo as a competitor of Tata Motors. Tata Motors was a truck manufacturing company that evolved into a car company while Volvo is a multi-faceted company that manufactures trucks, buses, construction equipment, marine engines, aircraft engines as well as parts for rocket engines. The Volvo products that most of us are most familiar with, Volvo cars, is actually owned by the Ford Motor company since 1999.

So what does Volvo have to do with India? Volvo trucks have been used in India for many years now and India is considered the fourth largest market in the world for heavy trucks. With improving infrastructure, especially in terms of roads connecting the major cities, a number of transportation companies have started using Volvo buses, which sometimes cost three to four times their local counterparts. Volvo seems keen on increasing its market share in India as seen by its recent announcement to invest $350 million in a joint venture with Indian automaker Eicher Motors. Trading at a P/E of 14.66, Volvo may be a good way to capture the growth in emerging markets with less risk than investing directly in India or China. Volvo delisted its ADRs from the Nasdaq on December 13th but you can still buy the shares on the pink sheets.

ADRs and Closed-End Funds: Apart from U.S listed ADRs of Indian companies like Wipro (NYSE:WIT), Infosys (NASDAQ:INFY) and Tata Motors (TTM), the two closed-end funds India Fund (NYSE:IFN) and Morgan Stanley India Investment Fund (NYSE:IIF) used to be the only (exchange traded) game in town to invest in India until iPath MSCI India Exchange Traded Note (NYSEARCA:INP) came along. However it appears that this exchange traded note or ETN may be headed for a premature demise due to changes in SEBI (the Indian equivalent of the SEC) rules. Given the 47.1% gain in the Bombay Stock Exchange Sensex in 2007, which followed a 46.7% gain in 2006, the market is extremely speculative at these levels.

As anecdotal evidence of how speculative the market has become, consider the fact that almost everyone I spoke to had either no clue what the companies they were invested in were doing or had any idea about the valuation of the companies. Most retail investors are momentum based investors and RISK is a four letter word that has long been forgotten. There is no doubt that the Indian economy is booming and that the Indian stock market may be in a secular bull market that may last many years but at its current levels I think a serious correction is not too far away. One way to play this would be to short the India Fund (IFN) or IIF and simultaneously buy selective ADRs or stocks. An ADR that I particularly like at this point is mining company Sterlite Industries India (SLT), which trades at a reasonable P/E of 13.06. Instead of adding Sterlite to the model portfolio, I am going to add it to our watchlist and may consider starting a position on a pullback from these levels.