Indian equity markets have run up far ahead of major emerging market peers. If you ignore some of the smaller countries, India?s is right at the top of the table in terms of stock market returns this year. For the 2010 calendar year till date, BSE Sensex has given a return of 2.8% while China?s Shanghai SE Composite is down 26%, Russia?s Micex is down 2.4% and Brazil has pared 7.4%.
Among the Asian markets, Indonesia has run far ahead of the rest?giving a return of 18.1%, followed by the Philippines (12.8%) and South Korea (3.3%). Indian markets have gained on the back of increased relative inflows vis-a-vis its peers. This year so far, India has received the highest foreign inflows among the Asian peers ex-Japan at $8.4 billion as compared to $6 billion for South Korea and $1 billion for Indonesia.
The worry now is that the Indian market valuations appear on the higher side compared to its Asian peers, be it on price-to-earning ratio (PE) or price- to-book or even in terms of dividend yield (see table). Currently, the Indian market trades at a one-year forward PE of 17.3 and a dividend yield of 1.2%, both highest in terms of valuations. While one could argue that the higher valuations is because of India?s higher earnings growth rates but the first quarter earnings numbers have also raised doubts about the growth momentum, going forward.
Could there be a shuffle of portfolio in the second half of the calendar year? Historically, Indian market has never been the best performer in any calendar year among emerging markets since 2000, according to Bloomberg data. Markets in Russia, China, Dubai, Argentina and more recently Chile—which saw a huge bounce back after the debilitating earthquake—hold the honour of giving top returns over the past decade. India, in comparison, has never topped the charts in any year though its five-year returns has been among the highest in emerging markets. The Sensex has given a five-year return of 145% as compared to 160% by Brazil?s Bovespa and 162% by Indonesia?s Jakarta Composite. While these trends might not mean history will repeat itself, but what is worrisome is that valuations are looking more compelling in some emerging markets.
For instance, China, after a 26% correction, is already seeing overweight positions among major investors. The market has perhaps overreacted to fears of overheating and hard landing for the Chinese economy. Some feel the situation in China today is much different from that of 2008-09, when the global downturn led to an economic slowdown there. Now, it?s the Chinese government that is taking a call on its economy and could reverse course if economy bounces back.
Another big Asian competitor for Indian portfolio inflows, South Korea?which hitherto has been ignored by investors—is now looking most attractive with single-digit PE valuations. Remember, in 2009, when India received $17.2 billion of FII money, Korea received even more ($24.4 billion). And Taiwan received as much as India?about $15.6 billion. Both the Taiwanese and Korean economies?which are more dependent on cyclicals?have been getting lesser money on worries of a double-dip recession affecting their industries. But the Korean economy, which depends on the electronics industry, got a leg-up with the Semiconductor Industry Association raising its forecast for growth in global chip sales to 28.4% in 2010, after the 9.6% tumble in 2009. This, in turn, is inducing growth in private investment. IT hardware sales are also to pick up, boosting share prices of Taiwanese companies. The Indonesian market, which historically has been receiving comparatively much less equity inflows than India, is the region?s best performer this year. While it looks expensive, it is also being touted as the next ?I? in Bric economies.
Outside of Asia, markets like Russia, Brazil and Saudi Arabia are looking attractive. More recently Chilean markets got a leg-up?it gave a return of 17.9% this year. There are higher chances of emerging market money moving to these places now on. For starters, oil prices have moved up 10% from the year?s lows and are currently at $76 a levels, and with that, economies of Saudi Arabia and Russia are on their path to strong recovery. While there are concerns for Dubai?especially on the back of Dubai World restructuring–Saudi Arabia and Qatar, with their strong sovereign balance sheets and foreign assets, are on a strong footing.
Analysts expect oil and gas prices to remain higher for the year despite a fall in demand from OECD countries—all thanks to strong growth in demand from China and India. Commodity-dependent Russia is one market that investors can?t afford to ignore. Russian Micex has been among the top-three best performing markets half of the time in the past decade. It was the best performer in 2009, too.
Latin American economies, with their colonial linkages to Spain and Portugal, do look vulnerable. Especially Mexico, having a strong presence of financial assets of Spanish banks in the system. But Brazil, which is sputtering back to recovery, with its strong domestic consumption story, is a market that investors can?t wink at.
All said, India with its high GDP growth, will continue to get attention from global portfolio managers. But the biggest worry is that with its valuations relatively on the higher side, investors could look for the next best markets in the second half. If that happens, then India, which is largely dependent on FII inflows to prop up its markets, will remain on sideways for the rest of the year.
Almost $60 billion flowed into Asian emerging markets (ex-China and Malaysia) in 2009. And India got 31% of it. This year we have got much more in percantage terms of overall Asian portfolio money. While many fund managers are expecting a very low possibility of a ?double-dip?, the catching trend of risk aversion could also mean foreign investors cutting down on emerging market exposures. This, coupled with higher relative valuations, puts the Indian market in a vulnerable position. As the copy went for print, two portfolio managers had already pared exposure to India in favour of China.