HSBC Asset Management’s Shah and Mehta: There are bright spots when investing in India

It is also a time when interest in investing in India spikes, with investors seeking the array of opportunities available in the world’s fifth largest economy. 

India remains a relatively bright spot amid a challenging global environment but it is important to question how various external and domestic factors could impact what seems to be India’s star turn.

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Below, we assess the macroeconomic backdrop that investors need to consider when investing in India and why this could be India’s decade.

Election mode

With four different Indian state elections taking place in the next three weeks, investors will likely weigh the implications of these polls for the general elections expected in April-May next year.

While any populist political shift could add to inflationary and fiscal pressures, we think the government could tilt towards pro-rural, pro-social spending over the coming months within its fiscal boundaries, along with an ongoing focus on infrastructure spending.

The upcoming general election may slow or temporarily delay further progress in India’s major structural reforms.

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But the reform momentum is likely to pick up afterwards, particularly if there is a strong mandate for the next government.

Regardless of the election outcome, structural tailwinds will continue to support India’s growth potential, helped by the already completed reforms, as well as supportive secular global trends, such as supply-chain diversification and the transition towards renewable energy, for which India is an increasingly large player.

Higher for longer US rates

Another key area of focus will be the US interest rate environment. The recent rise in long-term US Treasury yields, amid market concerns about a ‘higher-for-longer’ Fed rate narrative and a wider US fiscal deficit, has tightened global financial conditions and weighed on capital flows into emerging markets.

This, in turn, has exerted pressure on emerging markets and Indian sovereign bonds and currencies.

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However, the Indian rupee has shown relative resilience, thanks to its solid macroeconomic fundamentals and the Reserve Bank of India’s (RBI) FX management during periods of volatility.

This, combined with India’s ample foreign reserves, should provide the RBI with sufficient ammunition to defend the rupee if necessary.

Inflationary price shocks

Crude oil price movements have important implications for India’s macro stability risks, given India imports more than 85% of its crude oil.

As a result, any sustained and sharp rise in oil prices would have an adverse impact on inflation in India, as well as India’s trade, current account and fiscal balances.

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The pass-through of higher oil prices could also increase the cost of production and transportation across a variety of sectors, weighing on profit margins and reducing consumers’ disposable income.

Bright spots

With these major areas of focus lit up, how should investors navigate the Indian market in 2024?

JP Morgan’s decision in September to add India government bonds to its benchmark emerging market bond indices has cushioned the impact of volatility in global bond markets to some extent and could boost flows into India government bonds by up to $20-25bn US dollars.

India’s improved current account, an uptrend in services exports, cooler inflation and the peak in policy rates, (with the expectations of rate cuts in in 2024) could all prove beneficial for India bonds. At 7.4% yield for its 10-year government bonds, India – as an investment grade market – also provides a substantial yield pick up against other investment grade bonds, such as the US at 4.9%,, and well above China’s 2.7%

Indian equities are also currently trading at 21.1x forward price-to-earnings ratio, very close to their five-year average of 20x. Indian equities’ relative premium is in part driven by the de-rating of other major markets such as China during the same period that Indian stocks have rallied sharply. But relative valuations only tell part of the story.

India stands apart when it comes to earnings visibility and growth prospects.

Earnings growth between 2022-2025 is expected to come in at 16.7% per annum following the 12.6% growth per year witnessed between 2018-2021, as Indian companies benefit from a slew of ongoing reforms and structural changes, such as digitalisation, infrastructure spending, the energy transition and the de-risking of global supply chains.

While the dark winter nights continue to draw in, and the storm clouds of geopolitical uncertainty may appear to darken the horizon, bright spots of opportunity remain in India.    

Sanjay Shah is a portfolio manager on the India fixed Income team and Nilang Mehta is portfolio manager on Indian equities at HSBC Asset Management