India's Strong Growth Should Continue

This article will help readers understand the reasons for the current market turmoil and how they can benefit from stocks in this hard time of very high market volatility.

1. What has happened to the Indian Equity Markets?

2. What is the best way forward for investors?

The BSE Sensex rose from a low of 2594 in 2001 had touched a high of 21200 in Jan 2008. It has risen 700% in absolute terms in a span of just 8 years. This rise in the Index has current economic growth factored in, but what made it dangerous is the stretch in valuations was increasing at a much faster rate than the earnings themselves.

A lot has happened in the global and the Indian equity markets in the last six – seven months. As of the weekend, the Sensex is trading at 12600 - a fall of 40%. The market cap has reduced from Rs 72 lacs crores in Jan 2008 to Rs 42 lacs in mid of July 2008. This erases all gains made in the stock markets for a period of almost 15 months, in the year to date.

The Foreign Institutional Investors or FIIs have invested over 150 billion US dollars in the Indian Equity Market in the last decade, of which they redeemed only 7 billion US dollars in the last 6 months. This is 4.6% of the total dollar amount still invested in the Indian Stocks. If they were so negative about the Indian Economy and its growth, they would have removed 95% or all of their money in this country.

Think! Just to give you an idea FII invested over 17 billion US dollars in just 2007 in India. They sold only 7 billion US dollars worth of Indian stocks. It is less than 5% of their holdings. Indian Financial Institutions, Mutual Funds and Insurance Companies have invested an amount in excess of 7 billion US dollars in the Indian Equity markets. Unlike in the past, when there were scams in the market by Harshad Mehta and Ketan Parekh, in the years 1992 to 1994, there is no Scam in the market today. The economy is growing in the area of 7% plus and with average inflation of 8%. In the coming years one can expect a 15% return from the equity markets.

If so, then why are the markets down??? Let us go back about a year to June 2007, when the first news of the global credit crisis came up. Total losses and write-downs from this crisis are expected to reach 1.5 trillion US dollars, of which about 1 trillion US dollars worth of credit losses are already reported and about 400 million US dollars worth of capital has been raised so far.

Things are also getting worse as the fall of the housing market in the US depresses financial institutions further. US Banks and investment houses are losing money and are redeeming their investments from almost all capital markets globally. Most of the FII which registered and invested in India in the last year were momentum investors. Thus the money they bought in the stock markets was looking for quick gains. You saw the corresponding increase in Sensex at 15500 in July 2007 to 21200 in Jan 2008, raising the Index almost 36% in a span of only 6 months and stretching the valuations a bit too far.

This phenomenon has been seen with most emerging economies in Asia as China’s stocks valuation were also stretched to very high levels. Thus extremely high valuations in India and China, a credit crisis back in the US and some of the FIIs started booking profits and sending money back to the home country. And this happened in a bit of a hurry leading to panic and finally a market crash.

To add to the pain, some of the Indian promoters, financial institutions and corporations also took advantage of the very high valuations and unloaded their holdings to the Indian public at large. There were very few buyers in the market and the fall continued.

During the last 6 months a part of the FII money was now being invested in countries with a high concentration in commodities such as oil, metals, and food. Both Brazil and Russia were trading at low valuations. Stock markets in Brazil and Russia were the beneficiaries of this move and we have seen these two countries' stock markets give positive returns this year.

As a result, commodities started becoming expensive and crude oil rose from a steady 80 US dollar a barrel in Jan 2008 to 148 US dollar to a barrel in mid-July 2008. The rise in these commodities, especially oil, is attributed somewhat to reasons of supply and demand, due to global concerns of war and conflict and rising consumption by India and China, as well as some pure speculation.

But the fact is India’s demand for global crude oil has increased only 1.5% where as the US has seen a fall in demand to the tune of 25%. Europe has not seen any rise in crude oil demand. China is moderately reducing its crude imports. And there is an excess production with respect to this demand. Therefor all these factors should lead to a fall in crude prices in the near term.

Going back to the US, which is also the world's largest consumer, as its economy is shrinking and shows all signs of recession, the rise in fuel prices, metals prices and food prices is leading to high inflation, or 'stagflation'. It is a difficult scenario as the federal bank and the US government are struggling to figure out what should be taken care of first - recession or inflation.

Back in India the rise in the prices of crude oil has impacted foreign exchange reserves because of the increased burden of payment of dollars to oil producing nations. As of today the cost of oil imports is about 40% of the country's total exports. India imports 1.1 billion of oil annually with the current cost of crude for India approximately 120 USD a barrel.

The FIIs are going for short trades in the equity market on every piece of bad news and making profits by selling high and buying low in the market, leading Indian investors to lose money and faith. As the government is not passing the entire price increase off to consumers and giving price subsidies to them instead, there is no incentive for the Indian public to consume less or change their consumption habits and help in conservation of petroleum products. Subsidies and oil bonds issued by the government increase the fiscal deficit. It has already increased from 2.5% a year ago to 4.5% today. Add to this current inflation imported to India because of oil and metals, and you have higher interest rates, across the board.

The government, in a bid to control inflation, has increased its various interest rates and some more interest rate hikes are expected in the next 12 months as inflation is not seen reversing soon from its current levels of 11.86% WPI. Thus the 10-year government bond is trading at a yield to maturity of almost 10%.

All the above factors could lead to a slowdown in capital expenditures as well as spending by the consumer as they may postpone their decision to take a home loan, or buy an automobile, with interest rates very high. The GDP growth estimate by the central bank has now been revised to 7.5% vs. an assumption of 8.5%.

It is very attractive if you compare the following growth forecasts: US: 1.3%, Europe: 1.5%, Japan: 0.7%, China: 9.8 %. It is expected that the high rupee-dollar exchange rate will help exports growth. Textiles are the largest export item from India. The Chinese Yuan has appreciated against the dollar in the last six months. And it is expected to appreciate further. This can help Indian exporters become very price competitive against Chinese manufacturers.

Hopefully the government will sign onto the nuclear deal soon. Hopefully India will have a government with a full majority after the elections so that reforms take place. Hopefully some more oil fields and reserves will be found like those in Rajasthan. Government spending on infrastructure will continue to be a catalyst in the long term growth of our economy.

The companies which can pass on the increase in the input cost to the consumers without much of a problem will continue to be profitable. There may be some more bad news still to come but Indian stocks are looking cheep and at very attractive valuations in many sectors. High inflation is a temporary phenomenon, and will subside with time. I do not believe our GDP growth rate will fall to 4% from the current growth rates because of inflation. The recovery will not be fast, however this crash has given investors an opportunity to invest at lower valuations and to create a strong growth portfolio.

Remember the investment returns in 2002 when the market was at the 2800 level, annualized out to 40% a year over the following 5 years. India's economy remains strong, the FIIs are not going anywhere and so it is sad Indian investors themselves have no faith in their own economy.

I am not saying you will get 40% for sure but definitely there is some serious money to be made. With the economy growing in the area of 7% plus in the coming years and with average inflation of 8%, one can reasonably expect a 15% return from the equity markets on a long term investment. Don’t look to time the market, instead try to increase the equity exposure of your portfolio and you're likely to realize some very good returns in the years to come.

Disclosure: None

Comments

[DragonSlayer]

Seems to be a very amateurishly written article. I would recommend proof-reading the article and using spell-check before posting the article. India is a socialist country, where profits are looked upon as a "bad thing" by a very significant section of the population. A society which revels in poverty. The stock market valuations, even after the recent drop, are much higher than established markets like those of Taiwan and South Korea. India has its own asset bubbles. I think people should short the Indian markets, and they would make a lot of money this year.

[Wefwef]

Lakhs crores... does the writer really think these are globally used measures. I doubt 1% of SeekingAlpha readers understand what they mean!

[SA User]

not recommended; this article has a distinctly biased feel to it

[Vikram]

DragonSlayer: Taiwan and S. Korea are not emerging markets; so comparing the growth rates in those countries to India is like comparing apples to oranges. Taiwan's economy is growing at around 4% rate; S. Korea is expected to be under 5% this year. Further these economies are much more strongly coupled to the US and the Chinese economy than the Indian economy and are likely to suffer more pressure from any problems there. The Indian economy is primarily an internal growth story and less likely to be affected by the problems in the US and anything which might happen in China after the Olympics. Would you compare China's growth rate to ROC?

WefWef: The Indian financial market use lacs (0.1M) and crores (10M) and the author chose to use them since he is based in India. SA is read outside the USA also, and investors in India are well aware of these terms. You could write to SA editors to convert these numbers to the US system.

[rexquondamrexquefuturus]

Yet another poorly written, poorly researched article. Thanks SA!

[roarandsoar]

First, this is not a english class to check grammer and spellings plus it is obvious that some readers are a bit disconnected with the global trends. India is a socialist country??? Let me rephrase my comments - some folks are completely disconnected with global phenomenon. India is one of the fastest growing economies led by domestic demand. This is the difference between India's growth story Vs other growing economies such as China. Author is a bit opinionated, but there is nothings wrong with opinonated journalism (think Fox).

[pshah]

Bad article and some bad comments too. I am Indian and I know that lacs and crores are used only in India and nowhere else.
FYI: 1 lakh = 100,000 and 1 crore = 100 lakhs = 10million.

Article is obviously a little biased as it ignores significant political inteference in essentials like infrastructure, health care and education that prevent India from achieving its true potential. This has created an unstable business enivornment, especially if the govt collapses in the near future. Plus, you can't compare India to US, EU or Japan to get a proper feel re growth rates.

And India is not a socialist country!! It has tremendous potential but , as everywhere else, there are potholes on its road - literally and figuratively.

[sooth_sayer]

soothsayer
Jul 21 06:59 PMClearly, the author has lost a lot of money in the crash from the absurd valuations of Indian (and Chinese) markets. He is trying to pump it up as much as he can in a desperate attempt. Percentages are very misleading, and it is easy for a 1 trillion dollar economy (which is what India's GDP is currently) to show a 8-10% return, especially when it is coming almost completely from foreign sources. The US economy is $15 trillion, and even if it grows just 1%, its GDP growth is more than that of India in dollar terms. The law of numbers makes it harder for bigger numbers to grow by bigger percentages. So beware all scamsters who rely on percentages alone. Also, just because FIIs invested so much recently into India does not mean they are right in their investment strategy. Many established institutions do things wrong. US banks were lending easy money to home buyers for the past 5+ years, and by the author's argument, they should have done that because they expected a strong housing market. That's not what happened in the US, and the banks are now in trouble. India is right behind, when the greatest real estate bubble in the Universe pops in its metros. Mark my words, the next decade is going to be very dark for India, when all the hype is removed, India will be exposed for it truely is, a corrupt, cheating nation.

[Vikram12]

DragonSlayer you need to get your concepts right... You just seem to be making a fool of yourself by stating India is a socialist country.... India has the oldest stock market in Asia and very good access to capital...If the increse in no of companies going public means socialism to you then you are confused bro... and may I ask which asset bubble are u refering here? Real estate ? stock markets? real estate can never go down in india bcause real estate is puchased through significant ammount of equity in india and not through leverage as supposed to America....stock markets will continue to well as along as we have sustainable economic growth which no wise person can deny in case of India.... for gods sake forget grammer and concentrate more on finance concepts....

[sooth_sayer]

Hey Vikram12, You are probably one of those that knows little about the past and is just rejoicing the present. Real estate prices in the 90s went down in India, so never say never. Also, what has happened in India in the stock market and in real estate in the current decade is a lot bigger of a bubble than what happened in Japan between 1970 and 1990. Japan also boasted an 8% annual economic growth during that period and land prices went up 500% (5 times) in those 20 years. Of course, that is nothing compared to the Indian bubble. All the bubbles burst in Japan in 1990 and since then, Japan has faced one of the most severe depression/deflations in the past 15+ years. India's turn is coming very soon. Those who ignore common sense and history and believe in never ending absurdity will wake up to reality pretty soon.

[Vikram]

sooth_sayer:
1. Real Estate went down in India is a very generic statement. It may have corrected in some areas where it went up very quickly but there was no nationwide bust like we are currently seeing here in the USA.

2. What we are seeing right now is a catch-up phase where the country is making up for almost 50 years of lost growth. Thanks to development in information availability, the process is getting accelerated quickly. To get a sense of the potential, India's per-capita income is about half of China's. So even if the per-capita GDP double's in ten years (about 7-8% CAGR), it will still be behind China's!

3. The current real-estate boom in India is a result of:
(i) Industrial/Urban Expansion: Agricultural land near urban centers which was once valued based on depressed agricultural prices, is now being valued in terms of the commercial value in a globally integrated economy.
(ii) Development and expansion of credit facilities: Till very recently, buying a home in India required decades of savings, since credit availability was poor. In the past decade, as the banking sector developed and made credit available which led to the growth of the sector. Of course massive white-collar job growth helped the process along.

But if you view real-estate prices on a national scale, outside the hot urban growth centers, they are nowhere near inflated. There is no nationwide bubble in real-estate or asset pricing.

4. There is going to be massive infrastructure development in India in the next decade which not only is necessary to sustain growth, but like in China will likely be a driver of economic growth. There is enough private sector capital available to drive that since the economics are so well stacked up in the favor of investors. Gradually the political posturing which constrained infrastructure growth is also taking a back seat, with investors figuring out how to manage the politicians.

I do agree with some posters that the author could have organized his thoughts better and made a more cogent case. however many of the comments here are completely off-base. There is uncertainty in India about the fate of the Central (Federal Government) but if the past offers any clue, there are going to be no negative policy changes; in fact the lull might allow some tougher measures to go the legislature.

[Vikram12]

sooth_sayer - My point was - it is the concept of unaccounted money which drives the indian hosing market... i agree tht its percent as a whole has declined but still contributes a huge chunk... This is not the case with the present american crisis which was due to the birth of cheep money during the greenspan era which led to money flowing into real estate through exotic options or structured products. American husing bubble was a classic case of FASB not being able to catch up with financial engineering... Japan's housing boom was also led by cheep access to financial leverage... You may be right on the end result of a housing price deflation in india but the reason for the deflation do not look similar to tht of Japan or America...

[Fellow IE]

I see a disconnect between these two statements:

"FIIs have invested over 150 billion US dollars in the Indian Equity Market in the last decade, of which they redeemed only 7 billion US dollars in the last 6 months. This is 4.6% of the total dollar amount still invested in the Indian Stocks."

"credit crisis back in the US and some of the FIIs started booking profits and sending money back to the home country. And this happened in a bit of a hurry leading to panic and finally a market crash."

I don't think $7B is enough money to send back to US or any other country to recover from sluggish economy and banking crisis.

I think Indian markets are too speculative and sentimental....I agree that the valuations were blown out and currently it is going through a correction phase and I wouldn't be surprised if BSE drops around 10K.

[sooth_sayer]

Vikram, It is interesting that you can make a broad statement like "real estate will never go down in India", but when I point out that real estate went down in India in the 90s, you term it "generic". Real estate prices in India have gone up absurdly based on a ponzi scheme. It is completely leveraged, where speculators put down 5-10% down and then flip it over to the next speculator within weeks, if not days. Since money is not borrowed from banks to play this speculative game, perhaps banks are not in that much trouble, but that does not mean that the valuations are not absurd. It also means that very little equity is in these homes, as most people have been just speculating with their down payments.
Let me clarify that there was NEVER a bubble in the USA, and what the media in the USA terms a bubble is basically just a tripling of home prices in TWENTY years in coastal areas. In the rest of the USA, home prices have only DOUBLED in the last TWENTY years. And this very meager appreciation is what they call a bubble, which is utterly ridiculous. The leftist media in the USA wants home prices to stagnate forever. Media in India, on the other hand, is a non-stop hype machine, getting more investors into the ponzi game. Land prices have gone up anywhere from 100 times to a 1000 times in the past 20 years in India, and compare that to 2-3 times in the USA. Even low quality apartments in most Indian towns cost more than even a decent single family home in a corresponding place in the USA. Nothing could be said to justify that, when you compare incomes, infrastructure and quality.

[andyn]

Guys, instead of the infighting about the fundamentals, remember this forum is for investing and making money.
The BIG news today is that the indian govt won the confidence motion and that means they will push all the pending deals.
BUY IBN, EPI, PIN, TTM and/or IFN. Exit end of the year....
should have a good percentage move b/w now and then.

[Vikram12]

sooth_sayer-- You seem to be jealous with asset price increases outside America... If You have been to India you can certainly notice how much potential increase in infrastructure is still possible. And by the way there is shortage of land in places like Bombay.
you said "Nothing could be said to justify that, when you compare incomes, infrastructure and quality." i kind of agree with the point you make on infrastructure but you must not forget tht India has the most competitive manpower in the world and comparable to America... Your second point on income is incorrect because India has more increase yoy in real income than America. Americans have large spending habits whereas Indians are more conservative. And you seem to ignore the point i make about unaccounted equity which drives Indian housing market... There might be a correction in asset prices in India but you will not see foreclousures and building up of inventory which has been the case in America.....

[Vikram12]

Land prices have gone up anywhere from 100 times to a 1000 times in the past 20 years in India.... Have you seen how the rupee has depreciated against the dollar over this period. Even though the Fed was recklessly printing money the doller gained in value.... every thing is relative in this case.... If Indians declare the amount of household gold they hold the rupee will appreciate like crazy and if we just let us assume tht the fed has to repay its investors then the dollar is worth a tissue papper

[Vikram]

sooth_sayer:

Can you comment more about the Ponzi scheme? There is little or no seller financing in India; even bank led financing was a mirage less than a decade ago. Most of the money came from the unaccounted economy (black money) and transactions were conducted in all cash deals with people literally exchanging bags of cash.

As the other Vikram(Vikram12) pointed out, you also have to look at real prices versus nominal prices. The Indian Rupee has been depressed for the past two decades that shows up in pricing.

You also have to account for population density in India versus the USA. Land is relatively scarce in India and that will show up as higher premiums for homes, especially when compared to non-Metro/non-Coastal America where homes sell more on replacement value and not speculative value.

Growth in real estate prices in rapidly growing emerging economies is a not exclusive to India. Rising incomes coupled with the availability of credit, and rapid urbanization increases the value of real-estate at a much larger rate than the GDP.

Vikram12: Your comments about Gold is not easy for a non-Indian to understand. There used to plans to get the gold into circulation as capital but now that availability of capital is no longer a challenge they have been shelved. India is benefiting from the wealth effect of Gold which not many people factor in to their models.

Today's vote of confidence will be good for the equity markets. Further the recovery in the US equity markets is going to be good for equities in the emerging markets as well. And BSE is trading in mid teens of trailing P/E. Much cheaper than the US market with much better growth prospects.

[User 231086]

>>The GDP growth estimate by the central bank has now been >>revised to 7.5% vs. an assumption of 8.5%.
>>It is very attractive if you compare the following growth forecasts: >>US: 1.3%, Europe: 1.5%, Japan: 0.7%,
This stupid statement I hear all the time - Has anyone actually compared the $$ amount tied to 7.5% vs $$$$$ amount
to 1.3% in US!! My company grew 100% this year, my revenue went from 100K to 200K. While my friends company grew only 10% but his revenues grew 50 million to 55 million. Where did real money go ? in 100K or 5 million ?

Further no point comparing to JAPAN, India has 1 billion people and the aspiring consumer list for cars, real estate, foreign goods etc is only growing everyday like China, and not compressing as in US / Europe and Japan. Std of living is already high in West! More people in India/China become richer every few years who can now afford luxury goods, while in the West it is saturated and cyclical, people start reducing consumption of big and small ticket items during downturns. That is why India/China are considered emerging growth markets..

[User 231098]

It was agood article. Slighly simple. Did not have the punch. However with most of the above criticism I do not agree. I am an investor in India & live there 4-6 months each year. Facts corroborates what has been written. ^BSESN can come down to 10000. However the brokers in India feel that it is poised to go up. Perhaps it will track the US ^DJI. Today IFN was up 7.8%, why?
So commentors do not waste your time, do not critisize India & take advantage of India's opportunities & prosper. Good luck.

[sooth_sayer]

So there are 2 Vikrams...go figure!! All the arguments you both supply as justification were all given to Japan during the 70s and 80s. Tokyo has a very dense population too, and its land availability is less than in India, so why is the market there yet to recover in the past 20 years? The rupee has depreciated only 50% against the dollar in the past 20 years, and so is not the justification you are looking for. Also, I was only pointing out how inappropriate it is to call the US home appreciation a bubble. Most homes in the US have hardly gone anywhere in the past 20 years and yet the whole world is being told that there was this big bubble in the USA. And yet there are bigger bubbles in both percentage and dollar terms in the rest of the world that nobody wants to scrutinize. How ironic?

[Vikram12]

sooth_sayer---US housing was built on the concept of MBS (mortgage backed securities) Spending habits of average Americans and high standard homes and artificially high prices to start with was all a game for banks to be angels of capital .... this led to leverage in US homes... this time structured products failed.... tell me how this is going to happen in India? US housing might start to rebound as soon as the inventory due to foreclosures reduces.... thts a good point u made abt Japan being very dense... i looked up at the population growth and demographics of Japan over the years .... Japan's population was 121 million in early 80s and is abt 126 million now and is expected to decrease in the future... moreover the percentage of young ppl declined in Japan over the years... Japan witnessed huge rise in population during the 50s through 70s... with this aegaing population japan has a huge burden... I am not sure how this translates to housing but makes some sense to me... the point I am making is these are diffrent markets driven by difrent fundamentals... the recent US crisis is more of a structured finance failure it is more of a risk return failure... there are only 2 things we do in finance either we find the price or estimate its risk if we mess up any of the 2 then thers a problem... in case of US it was the risk return problem.... Having said tht i agree with you abt infrastructure I love these homes in Illinois and Wisconsin they are much beautiful than Indian homes....

[PAUL,USA]

One of the best article written so far, excellent use of chronological events about the downfall of US and indian markets and the reasoning behind it. People who didn't understand this article will definately make bad financial decision in future!!!

[Vikram]

sooth_sayer: Have you the skyline of major Japanese cities and compared them with Indian cities. Like HK, Japan also grew vertically. Vertical growth bypasses land constraints and hence can lead to excess supply. Except for the metros, most Indian cities do not have a skyline! When it comes to housing, demographics are a key. India has the largest number of people under 25. Household formation is increasing with better economic climate, which will provide support to the real-estate market.

[User 223801]

quote- "..there is no Scam in the market today."

There IS a scam in the market!

EXPERTS like this author and 2 Vikrams promoting their sites and questionable expertise.
Would do well to get a reality check here:

indiaplay.blogspot.com/