Investment opportunities in emerging markets are something global investors simply cannot ignore because they give the much-needed kicker to the portfolio.
Investment Rationale
The strategic rationale for investing in emerging markets like India can be summarized as under:
- High long-term growth rates than developed markets and more favorable demographic profiles
- Lower levels of government indebtedness compared to most developed markets
- Emerging economies are taking a bigger share of the global purchasing power
- Portfolio diversification
- Attractive return potential
Not To Be Painted With The Same Brush
Investing in India can throw up idiosyncratic risks, which means that index returns do not always show the true picture.
Nifty generated barely a 10% CAGR return in the last 10 years in INR terms, which would come down to mid-single digits considering the currency depreciation. So, quite clearly investing in a broader index like Nifty is not attractive (dollar returns of 5-6%) as the returns are not commensurate with the risks of investing in an emerging market.
But the catch here is that index returns may continue to be lackluster. At the same time, bottom-up stock-picking can generate multi-bagger returns if the investor is able to identify business models where revenues are growing at a faster pace. In addition to this, these business models should have pricing power that ultimately leads to higher profit margins.
A good fund manager/Investment advisor always adds value more so in the case of markets like India because of information asymmetry and potential mispricing of securities just ahead of and after important economic/corporate events.
It is important to stay away from the so-called ‘Value-traps’ in India. Some names, especially PSUs have been perennially beaten down, but the low valuation is due to valid reasons. There are other stocks that command a premium but have been able to justify lofty valuations because of consistent and above-normal growth. The focus should be ‘GARP’ (Growth at a reasonable price).
Below are a select few Indian equity names that have delivered handsome returns in dollar terms over the last 10 years –
| COMPANY | 10-YR CAGR RETURN |
|---|---|
| Hindustan Unilever | 18.4% |
| Nestle | 11:0% |
| TCS | 13.8% |
| Infosys | 8.5% |
| Asian Paints | 19.7% |
| HDFC Bank | 15.9% |
| Bajaj Finance | 49.1% |
| Reliance | 9.6% |
| Divis | 20.0% |
Active Investment Management To The Rescue
Passive Investment is slowly becoming the preferred mode of investment, especially in developed markets, as more and more fund managers have a tough time beating the benchmarks. Investors are less inclined to pay hefty fees to fund managers when low-cost Index ETFs can fulfill the requirements of a well-diversified portfolio.
However, Active Investment is still the way to go in emerging markets like India. This is because emerging markets are inherently inefficient with respect to news flow. All market participants do not have access to the same news flow, which means sophisticated investors with superior research have a head-start. Emerging markets like India can be volatile, so it takes a vigilant eye to process the developments and take an informed decision. Lastly, emerging markets can be high beta, so it is even more necessary to manage risk during a market correction.
Way Forward
It is recommended to have a good allocation of Indian equities in your global equity portfolio because India continues to throw up consistent compounders that seamlessly compound your wealth year on year. Also, given the purchasing power of the Indian middle class, some of the home-grown companies have the potential to grow at a faster pace and generate higher returns than their counterparts in the developed economies.
Our Sectoral Preferences
We continue to hold the view that bottom-up stock picking is the way to go in India. We believe that the low penetration in India would help sectors like Insurance and Financial Services. The shift from unorganized to organized would help the Retail sector. Consumer Discretionary looks attractive because of pent-up demand once the economy recovers. Meanwhile, the IT sector continues to look good because of increased Tech spending globally. Also, the pharma industry should continue to do well with both local demand and exports looking robust.
