Vijay Kumar Gaba

Formulating an investment strategy for investors in India had never been as challenging as it appears today.

For past three decades, the secular growth narrative built on economic reforms, infrastructure development, demographics (large middle class, secular demand growth, accelerated urbanization, educated workforce, etc) and deeper and wider integration of Indian economy into the global economy, made the job of investment strategists easier. All policy failures, inadequacies in terms of physical and social infrastructure, political instability (especially mid 1990s), civil unrest, terrorist violence, geopolitical tensions, and market corrections due to these factors were accepted as “opportunities” to buy a secular long term growth story at a bargain price; and all such adventures were rewarded handsomely by quick reversal in mrket trends.

What you needed to be a successful investor in India, in my view, was the following–

(a)        Courage to take risk.

(b)        Deeper and wider to information.

(c)        Inertia to flow with the current.

(Contrarians who resisted the current and tried to swim against it were mostly annihilated, even though they were right about the unsustainability of the stock prices.)

(d)        Smartness to stay with the industry leaders, rather than spreading your capital too thin.

(e)        All stars favorably aligned in your horoscope.

Alternatively, the ability and resources to manipulate the markets would have also helped you, provided you were not too greedy and exited well in time.

It is pertinent to note that there is no evidence of Indian markets having a rally (or bust) based on their own investment theme in past three decades. Our market has just been passive participants in the global booms and busts (Commodities early 1990s; Financials mid 1990s; ITeS late 1990s; credit fueled construction mid 2000s; financials in mid 2010s, and digitalization of services and healthcare recently. Regardless, the mythology of Indian stock market is full of folklores about how the smart investors have identified the trends and businesses and made fortunes.

The things, however, do not appear to be that simple now. The “secular growth” narrative that drove the markets in past three decades is no longer unchallenged. There is an alternative narrative building. This counter narrative is based on the assumptions like the following:

(i)    India is failing in exploiting its demographic dividend.

(ii)   The pace of infrastructure building is lacking urgency and lags even many smaller emerging economies.

(iii)  The failure to maintain an adequate rate of investment has resulted in insufficient capacities to support the employment for rising youth population.

(iv)   The trend in quality of human capital has reversed due to failure of education and HRD policies.

(v)    A series of poorly planned reforms have diminished the popular appetite for any more radical reforms.

(vi)   The present government is not making sufficient efforts to build socio-political consensus for implementing key reforms to accelerate the growth.

(vii)  The potential growth trajectory of Indian economy has shifted downward to 6-7% and is grossly insufficient to support the rising aspirations of young demography.

The challenge of investment strategy is to find a balance between these narratives by neither getting overwhelmed by the negative narrative nor believing in the “secular growth” story of Indian economy blindly.

In next decade, either Indian equities will either have a theme of their own; or these shall lose the attention of global fund. In past couple of years a tendency to invest in global equities has emerged amongst Indian investors. This tendency may gain momentum in case the Indian economy fails to enhance its potential and realize such enhanced potential. Russia could be a relevant case in point to study in this context.

To support the positive narrative, the following excerpts from a recent Fidelity report could be useful.

“Throughout modern economic history, an expanding manufacturing sector has been essential to boosting employment and incomes. It’s a lesson that’s been driven home repeatedly, by the development of postwar Japan, the export boom in the Asian ‘tiger economies’ and most recently (and emphatically) China’s rise.

…..

India’s fixed asset investment has also lagged China’s and been on a declining trend in the past 10 years. In the 1990s, both countries had FAI at similar levels relative to GDP. Even though China has arguably spent too much on FAI in recent years, such investment is needed in the earlier stages of development and that’s where India missed the boat.

….

Today, India could be at an inflection point in the development of its manufacturing sector, as we think the government’s most recent package of reforms, known as Make in India 2.0, can be a game-changer if executed well.

The plan is to create 100 million manufacturing jobs and increase the manufacturing sector’s contribution to GDP to 25 per cent by 2025 from the current 16 per cent. It also features a doubling of infrastructure spending in the next five years versus the previous five years.

….

Overall, we expect an immediate contribution of around 0.5 percentage points of incremental GDP growth, and eventually the multiplier effects may lead to a contribution of about 2.5 percentage points.

…

Increased investment in infrastructure and manufacturing would also lead to productivity gains per capita. In absolute dollar terms of output per worker, India trails far behind other big developing markets like China and Brazil, not to mention the US or Europe.

With the increase in access to higher education, by 2030 India is expected to have a bigger tertiary-educated population than China. Meanwhile, urbanisation in India is forecast to increase from 35 per cent in 2020 to 43 per cent in 2035.

As a result, income levels in India are rising, as are the number of middle-class and high-income households. This will lead to a corresponding increase in consumer demand, which should translate into deeper penetration of sales of consumer items ranging from white goods to automobiles. Beyond consumer goods, other sectors that stand to gain from an acceleration in structural reforms include financials, industrials and healthcare.

The winners will be those firms that benefit firstly from structural growth, as penetration of their products and services increase in the country, and secondly, those that gain market share from weaker and less efficient players. For example, we expect this to include India’s private sector banks. Besides benefiting from structural growth, they will continue to gain market share from public sector banks due to their strong deposit franchises, conservative underwriting culture, well capitalised and strong balance sheets, and focus on technology.

The growing ranks of young affluent consumers means strong increases in housing demand, which translates into more mortgage business and other forms of consumer credit (not least, credit cards usage).

….

As a key emerging market and a proxy for global risk appetite, India took the full brunt of investor sell-offs when Covid-19 hit in early 2020. Going into 2021, while uncertainties remain, we expect the economy to continue its recovery path.

The recent rally has been narrow, focused on sectors such as healthcare, IT services and materials. Meanwhile valuations remain attractive across a number of areas including financials and industrials. As India’s economy gradually emerges from the Covid shock and corporate earnings start to improve, we think the long-term structural opportunities will again come into focus.”