Mainline Indian indices in November outperformed emerging markets by the biggest margin since July 2015.

Summary

• For the second consecutive month MSCI India Index outperformed both MSCI Emerging Markets and MSCI Developed Markets indices. Mainline Indian equity indices (Nifty, Sensex) rebounded strongly from October’s losses, and once again significantly outperformed mid and smaller-cap indices. The Indian rupee also gained on the month against most other currencies.
• Towards the end of November, GDP growth for the quarter ending September 2018 came in at 7.1% year-on-year, following the previous quarter’s strong 8.2% year-on-year growth. Although growth was weaker than expected it is still stronger than the corresponding quarter last year. Whilst both manufacturing and private consumption performed well, subdued growth from the agricultural sector highlights the political hurdles the government faces in a busy election calendar.
• The second quarter 2019’s result season finished largely in line with revenue estimates, but input cost pressures led to analysts revising down their expectations in the consumer and manufacturing facing sectors. Corporate banks performed well on bottoming out of non-performing loans (NPL).

Fund activity

Mainline Indian indices in November outperformed emerging markets (EM) by the biggest margin since July 2015. Falling crude oil prices and a strengthening Indian rupee eased some of India’s external pressures, whilst liquidity concerns over India’s large non-bank financial sector also improved as the month progressed. In addition, the spat between the government and India’s central bank, the Reserve Bank of India (RBI), seems to have come to a truce for the time being. These factors prompted foreign investors to turn net buyers for the first time in two months, while at the same time domestic mutual funds slowed buying after large purchases in September and October. With less domestic participation and more foreign interest the larger-cap, heavier index weighted stocks outperformed the mid and small-cap stocks over the month. As a consequence the Fund underperformed in November.

We were fairly active in November, making two complete sales and one new purchase for the Fund. We introduced Bharti Infratel into the portfolio which will soon be the world’s second largest telecom tower company in the world and sold both Arvind and Dixon Technologies. Arvind is a large Indian textile company that has been a part of the portfolio since 2015. The company has received final approval to split into three new listed entities and this process is expected to take a number of months. The most exciting part of the business is the high-end retail fashion business, and we have decided to sell the stock and potentially look at the fashion business when it eventually lists.

Dixon is primarily an outsourcing manufacturer of various electronic products that we feel is facing significant pressure from their clients as a result of raw material price hikes as well as various companies deciding to manufacture in-house rather than outsourcing. We felt the stock valuation was not reflecting these risks and decided to exit the position

Bharti Infratel, on the other hand, is a stock that has undergone a significant derating over the last year, nearly halving in value. We classify Bharti Infratel as a defensive but growth stock which aligns with our other recent additions to the Fund. The company will be the world’s second largest telecom tower company following its merger with Indus Towers early next year. The two current major shareholders (Airtel and Vodafone) will exit at the merger, providing the opportunity for an international player to enter the register with a majority stake. Underlying data demand in India continues to soar, and the previous premium the stock attracted has evaporated, providing a good valuation entry point. The merger and stock sale represent an overhang, but in the interim, a good dividend yield as well as a good net cash on balance sheet and potential fibre acquisition should keep interest high.

Outlook

It has been anything but a quiet couple of years for India, and we expect the next six to eight months to be no different. On 8 November 2016 the government announced its demonetisation exercise; on 1 July 2017 the long awaited Goods & Services Tax finally came into effect - both events deeply disruptive to the economy. More recently markets have had to contend with rising interest rates, rising oil prices, rising US dollar, falling Indian rupee, trade wars, global growth concerns, tighter liquidity and a government-RBI rift. The result has been a marked pickup in volatility which we doubt will abate as we approach India’s busy election calendar starting with some important state election results on 11 December and then the national election expected in May 2019.

But before we sink into a sea of gloom, some of the concerns are either already easing or should do so shortly. The change in tone from the US Federal Reserve to a more neutral bias on the US economy, (softening its stance), the apparent trade truce announced by President Trump at the recent G-20 summit and China announcing more measures to stabilise domestic growth all bode well for EM assets. For India the fall in crude oil offers a reprieve to the current account and fiscal deficits, which will likely enable the government some room in its attempts to revive the rural economy which is crucial for election hopes for both parties.

While we do expect volatility to remain high for the period ahead, we must not let short-term considerations outweigh the medium to longer-term potential that India offers. The productivity boosting reforms undertaken over the last few years, the profound explosion of e-commerce and e-government and the final appearance of stable growth means India offers investors a higher return potential and lower volatility than its EM peers, and is a stand out in a challenging global environment.