India - Time to invest from FII perspective?

The other day, I was talking to a person from a major UK multinational company managing investments, who was telling me about how there is a sudden buzz there in increased interest in investing in India.He suggested that there is a lot of money in the developed which is looking for good value investments in India as most people are relatively extremely optimistic about the country.

The sudden upsurge in increase in investor interest in India makes you wonder if India has suddenly turned around from being one of the least popular destinations for investments in 2013 to one of the most promising ones in 2014. To get more clarity on it, lets take the following things into consideration from the fundamental side to see if it really makes sense to be considering investing in India.

a. BRIC countries - The BRIC countries actually represent a very important chunk of investments for asset managers managing emerging market funds with allocations between 20-60% whereas the rest of the world gets the remaining pie. Now looking closer, with Russia and Ukraine tensions coming to the fore, and the west planning to strongly condemn it, Russia has lost a lot of popularity in terms of investing due to perceived political instability which could lead to under performance for the country. On the other hand, the Chinese data has consistently been below expectations and there is a growing consensus that the world's second largest economy is slowing down and is having some serious economic problems to solve. This leaves the emerging market asset manager to consider only 2 destinations in BRIC countries viz India and Brazil. Thus there is a possibility of higher allocation from these BRIC focussed funds to India. Though this is not a fundamental improvement, but it still brings greater investment to India.

b. CAD - The recent fall in current account deficit in India has made the world optimistic about the seriousness and intent of the government to curb it. Besides, the improving trend augers well for the country as it helps in improving the rating of the country as well as ensuring that the debt market remains stable. Also, the cost of funding reduces for the government and companies within the country. Also, India has been grappling with this problem since a pretty long time now and any improvement in this suddenly opens the gates to growth and development improving performance of companies.

c. Monetary policies - The RBI has generally been tightening the interest rates as the inflation has been stubborn within the country. RBI is currently being headed by a very prominent economist who has been clear in his intention to promote and support growth as soon as inflation comes under control. Also, considering a possibility of rate cut cycle commencing, there appears an opportunity that Indian companies would start seeing their cost of capital coming down. This could help post companies perform better and hence leading to higher returns on capital.

d. Company performances -There has been little improvement in the performance of companies over the past 2 years. Most of the times, the results have surprised to the downside rather than upside which makes one skeptical about a possibility of a rebound here. But the silver lining is that the equity markets are generally forward looking and there has been growing optimism that the performance disappointment has been bottoming out. Most Indian banks are focusing on improving their balance sheets and reducing NPAs which would bear fruit now. Besides, the IT companies and pharma companies have found themselves at advantage due to falling rupee. FMCG companies have consistently outperformed owing to the ever increasing consumer base. Infrastructure has been a very serious concern currently with little reforms and lots of project delays and higher costs of funding but these companies have little weight on most broad indices. Oil and gas as well as metals which are major components have started benefiting with supportive government policies and stronger intent to decentralization and increased transparency. 

e. Oil and Gold prices - With Iran and Iraq increasing production and call on OPEC reducing, there has been an increased oil supply in the world. For the first time in decades, US has become self sufficient in oil. Looking at the oil supply demand equation - Demand - US (Rank 1 - Self sufficient first time ever in decades), China (Rank 2 - Going through slowdown), Developed economies (OECD/ IEA/ EIA all predicting near constant demand with little upside risk). Hence it appears that demand growth has been reducing significantly. On the other hand, comparing with previous year, US production has increased , Iran and Iraq have started supplying rapidly. Libya may soon come back into supplying which means that the supply could increase by as much as 5-6 mbpd very easily compared to previous year making it clear that oil prices may not go up in near future. Oil is one of the biggest component of import bill for India and hence a stable or reducing oil price augers well for India. Also, with possibility of Fed going into a rate increase cycle, gold prices might start coming down which would reduce the cost of gold imports too. The top 2 components of Indian import bill appear to be all set to come down which would improve the trade deficit for the country and improve the INR.

f. Currency - Despite the onslaught of the emerging market currencies, INR managed to hold strong its fort which indicates improving strength of the currency. Fundamentally too, reduction in oil and gold prices, inflows of capital, relatively higher interest rates, improving CAD all point to near term support for the currency. There is  however a possibility that tightening by the Fed could change the entire picture but then considering that India is better placed than most emerging economies, it appears that India would keep its attractiveness over other destinations. 

g. Optimism on the new government

There has been an increased overall perception and expectation of a stable government which is highly progressive and could lead to spurt in economic growth. If this does happen, it could lead to a sustained improvement in company performances as well as increase in GDP growth rates which could auger well for the country.

This entire picture can change in the following scenarios:

a. Unstable central government

b. Ukraine - Russia issue transforming into a serious diplomatic/ military conflict

c. Fed tightening more aggressively than expected

d. Spillover effect of China slowdown on the world.

Since the above reasons are currently defined and one would be able to see them coming, there is a valid case for India becoming an attractive investment destination for global asset managers!