Quick Market Update
 

India Awakens

December 10, 2013

Ron Florance, CFA®
Deputy Chief Investment Officer  

Sean Lynch, CFA®
Global Investment Strategist

 

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In this Quick Market Update:

Observations from our India trip

  • This weekend’s election results show that many Indians are anxious for political change.
  • As India recovers from its mid-year slump, economic growth is expected to trend higher, but is unlikely to reach the post-recession highs of eight to nine percent any time soon.
  • Abundant crops this year could help to constrain Indian inflation in the coming months.
  • Maintain neutral allocations to emerging markets and Indian assets in particular.


An economy bottoming out and trying to gain traction…worries over political paralysis…markets on edge responding to the latest elections…Are we talking about the United States? Maybe. But this is also the prevailing environment in India, one of the world’s leading emerging markets. We are currently in India analyzing the business climate and economy as part of our global research efforts. In this Quick Market Update, we review the recent election results, discuss our outlook for the Indian economy and markets, and share investment insights gleaned from our meetings here.

This past Sunday, December 8, the election results in four key India states were announced. The challenger, the Bharatiya Janata Party (BJP) national party, and its charismatic leader, Narendra Modi, proved victorious in all four elections. Why are election results in India important for global investors? Global investors likely have some exposure to India markets, and the results of Sunday’s elections led to strong performance in the Indian markets. Since its low point on August 21, the Sensex Index—the benchmark index of the Bombay Stock Exchange—has increased over 19 percent, making India’s equity markets a key positive outlier among other emerging markets over the past few months. The two major Indian benchmarks stand near record highs despite the many economic, political, and social concerns impacting the country. Now that the elections are over, however, India, alongside the rest of the emerging markets countries, will have to once again digest fears that the U.S. Federal Reserve may soon taper its bond buying activity, in addition to concerns about other central bank policy maneuvers in the developed world.

The Sensex Index’s strong performance in the past few months serves as a positive outlier


Sensex Index performance since January 2013 through December 2013. Contact your Relationship Manager for more information.

 

Source: Bloomberg, 12/09/13
 

Staggering numbers

India is one of those countries where sheer numbers can be staggering sometimes. For example:

  • 74.5 percent of the 11.9 million total voters in the state of Delhi voted in this election. There were 405,000 people voting for the first time. This is hardly voter apathy in the world’s largest democracy.
  • Indian GDP growth should bottom out this year at 4.8 percent, a growth rate that would make many developed countries envious. Judging from the discussions we had with business leaders, government officials, and economists in Mumbai and Delhi, most believe that, in spite of policy mistakes, India will continue to grow at an annual rate of at least 4.5 percent. With renewed optimism as a result of the elections, India’s growth rate could trend higher, but is unlikely to reach the eight to nine percent post-recession highs any time soon.
  • Over the next 10 years, approximately 240 million people will enter the Indian labor force.1 The ability to absorb such a large number of job seekers is one reason why growth is so important to the Indian economy. It is also why the economy (under the right conditions) can grow at a high rate without sparking labor-related inflation. 

India turning the corner

Despite the BJP’s strong showing in this weekend’s local elections, victory in May’s national elections is not guaranteed; much can change in the coming months. Nevertheless, political waves can be hard to stop. The results from this weekend clearly spell trouble for the incumbent Indian National Congress (Congress) party led by the current Prime Minister Manmohan Singh. The Congress party has been in power since 2004, and many attribute the country’s deceleration to its poor policy making. The winner of the May elections will still have to form a coalition government, but the turnout for Sunday’s state elections shows that enthusiasm for real change is afoot. 

Some other key components to India’s economic health are its environment and weather. This year’s monsoon rains were good, leading many to expect a plentiful harvest this year. Ample crops should help to reduce India’s inflation rate, which climbed to seven percent in October largely driven by higher food costs. For example, the price of onions, a vital staple in Indian cuisine, soared at an annualized rate of over 278 percent in October, and prices of vegetables soared 78 percent during the same time period.2 With a more abundant harvest and fewer government inefficiencies due to the expected policies of India’s new leadership, expectations for inflation should decline to a more sustainable five percent level.

Lastly, one observation that has surprised us is the lack of panic around the summer swoon in the rupee and other emerging-markets currencies. By the end of August, the rupee had declined more than 20 percent before rebounding this fall. The currency suffered as foreign investor outflows increased following the U.S. Fed’s comments in May about tapering. With the strong jobs number reported this past Friday in the U.S., will renewed fears of tapering result in another leg downward for the rupee? Possibly, but few see the value of the rupee deteriorating further than it did this summer. India has had several months to rebuild investor confidence. One way it has done so is by improving its current account deficit by enacting certain policy measures, such as limiting gold imports. Also, investors here have commented that a weak rupee isn't all bad for India as it makes exports more competitive. It has been estimated that nearly 40 percent of the companies that make up the Sensex Index benefit from a weakening rupee. Recently, we have seen foreign inflows of capital turn positive once again.

Investment implications

Our tactical recommendation is neutral for emerging market equities, bonds, and for Indian assets specifically. At the beginning of our Indian trip, we thought that the conclusions we were likely to draw would be more pessimistic. We were having difficulty rationalizing the political dysfunction and economic turmoil with the new highs the stock market was reaching. As our meetings progressed, however, we began to see why the equity markets, a forward-looking mechanism in any country, have begun to show significant improvement. Economic optimism is returning to India, but may already be reflected in current asset prices. Valuation is not especially compelling given that the Indian stock market is trading at 15 times earnings for 2014, which happens to be the historical five-year average for this index. As with many other emerging markets, above-average economic growth rates have not translated into strong corporate-earnings growth. Instead, corporate earnings in India have remained subdued over the past five years, and profit margins are near 20-year lows. At these levels, the earnings cycle may be bottoming, but a meaningful increase in earnings may be a few years out.

One of our most profound impressions of India is the strong aspirational nature of its people. Their view is that life only goes forward, not backwards. Progress in this vast country will be challenging and lumpy. We will include more of our observations about India’s expanding bond market, its currency (rupee), gold demand, and the country’s battle with inflation in an upcoming special report that will be published in the first quarter of 2014.

India is a key barometer for emerging and frontier markets—a group of markets that has fallen out of favor with global investors this year. As with any region or asset class, the time to revisit such investments is typically when interest wanes. As the buoyant equity market is anticipating and the latest election results are showing, India is beginning to reawaken.
 

All data for this Quick Market Update was sourced from Bloomberg Finance, LLP, unless otherwise noted.


Disclosures

Wells Fargo Wealth Management provides products and services through Wells Fargo Bank, N.A. and its various affiliates and subsidiaries.

The information and opinions in this report were prepared by the investment management division within Wells Fargo Wealth Management. Information and opinions have been obtained or derived from sources we consider reliable, but we cannot guarantee their accuracy or completeness. Opinions represent Wells Fargo Wealth Management’s opinion as of the date of this report and are for general information purposes only. Wells Fargo Wealth Management does not undertake to advise you of any change in its opinions or the information contained in this report. Wells Fargo & Company affiliates may issue reports or have opinions that are inconsistent with, and reach different conclusions from, this report.

Asset allocation and diversification do not assure or guarantee better performance and cannot eliminate the risk of investment losses.

Past performance does not indicate future results. The value or income associated with a security may fluctuate. There is always the potential for loss as well as gain. Investments discussed in this presentation are not insured by the Federal Deposit Insurance Corporation and may be unsuitable for some investors depending on their specific investment objectives and financial position.

This report is not an offer to buy or sell, or a solicitation of an offer to buy or sell the securities or strategies mentioned. The investments discussed or recommended in the presentation may be unsuitable for some investors depending on their specific investment objectives and financial position.

Investing in foreign securities presents certain risks that may not be present in domestic securities. For example, investments in foreign and emerging markets present special risks, including currency fluctuation, the potential for diplomatic and potential instability, regulatory and liquidity risks, foreign taxation and differences in auditing and other financial standards.

Fixed income securities are subject to availability and market fluctuation. These securities may be worth less than the original cost upon redemption.  Certain high-yield/high-risk bonds carry particular market risks and may experience greater volatility in market value than investment grade corporate bonds. Government bonds and Treasury bills are guaranteed by the U.S. government and, if held to maturity, offer a fixed rate of return and fixed principal value.  Interest from certain municipal bonds may be subject to state and/or local taxes and in some instances, the alternative minimum tax.

Indexes represent securities widely held by investors. You cannot invest directly in an index. The Bombay Exchange Sensitive Index (Sensex) is a free-float market-weighted stock market index of 30 well-established and financially sound companies listed on the Bombay Stock Exchange.

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Investment Products. Not FDIC Insured. No Bank Guarantee. May Lose Value.


 


1 Source: UTI Asset Management Company, 12/13
2 Source: VN, Sreeja. "Record High Prices Of Onions In India, Which Soared More Than 278% In October, Limits RBI's Room For Rate Cuts." International Business Times 19 Nov 2013 Web.

 

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Ron Florance, CFA®

Deputy Chief Investment Officer



Sean Lynch, CFA®

Global Investment Strategist



India Awakens (PDF)
December 10, 2013

In this Quick Market Update, Deputy Chief Investment Officer Ron Florance, CFA® and Global Investment Strategist Sean Lynch, CFA® share observations from their India trip and analyze the business climate and economy as part of our global research efforts.

Related Resources
Podcast: India Awakens

 

Wells Fargo & Company and its affiliates do not provide legal advice. Please consult your legal advisors to determine how this information may apply to your own situation. Whether any planned tax result is realized by you depends on the specific facts of your own situation at the time your taxes are prepared.

Wells Fargo Wealth Management provides financial products and services through Wells Fargo Bank, N.A. and their various affiliates and subsidiaries. The information and opinions in these reports were prepared by the Investment Management arm of Wells Fargo Private Bank, a part of Wells Fargo Wealth Management and a division of Wells Fargo Bank, N.A.

Investments discussed in these reports may not be insured by the Federal Deposit Insurance Corporation and may be unsuitable for some investors depending on their specific investment objectives and financial position. These reports are not an offer to buy or sell, or a solicitation of an offer to buy or sell the securities or strategies mentioned.

Brokerage services offered by Wells Fargo Advisors, LLC. Wells Fargo Advisors, LLC, Member SIPC is a registered broker-dealer and separate non-bank affiliate of Wells Fargo & Company.

 

Investment Products: Not FDIC Insured, No Bank Guarantee, May Lose Value.