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Written by: Gabriela Santos and Tai Hui
Given the more challenging outlook for China’s economy and markets, investors have been seeking investment alternatives – with India often cited. Is the building excitement toward India’s economy and equity markets justified? The positive cyclical story, combined with long-term tailwinds such as demographics and structural reforms, suggest India’s role in equity portfolios is rightfully set to increase. The challenge, as usual, is elevated valuations, although the growth and quality of companies suggests a premium to other emerging markets (EM) is justified.
India’s economy benefits from both cyclical and structural tailwinds. Cyclically, India is seeing strong economic momentum, with its manufacturing Purchasing Managers’ Index (PMI) well above 50 (indicating expansion) through 2022 and 2023. India’s smaller share in global manufacturing exports and its lower dependence on the China reopening story helps to explain its strength versus other export-oriented Asian economies’ struggles.
Structurally, India benefits from several positive factors that point to an acceleration in manufacturing and higher income growth that can create a powerful new generation of consumers in the country (with 640 million people expected to join the middle class over the next decade):
- Demographics: The United Nations projects that China’s median age would reach 48 years old by 2040, while India’s would only rise to 35 from the current 28. As a result, India’s working age population is set to expand by nearly 100 million people over the next decade, while China’s is set to shrink. In addition, manufacturing wages are currently low, with an annual salary of production workers of USD 2,000 versus USD 14,000 in China.
- Geopolitical ties: Recent visits by Prime Minister Modi to the U.S. and France have highlighted close ties between India and the West. This could appeal to multinational firms seeking to diversify their production away from China, especially in the technology sector. Seeking to capitalize on the “friendshoring” trend, India has cut corporate taxes for new manufacturing production to 17%, matching the lowest rates in Asia.
- Reforms: Ample young workers are not enough to attract investment – the business environment and infrastructure are critical. Progress has been made on both these fronts. Historically, India’s infrastructure was a weak spot (hence why it prioritized technology services over manufacturing), but this has improved in recent years. In the World Bank’s Logistics Performance Index, India’s ranking is now comparable with several South and Southeast Asian nations – although room for further investment exists. Other reforms have included: making it easier to do business in the country, financial sector reforms and the digitalization of the economy. With that said, challenges remain such as the divergence in policy priorities between federal and state governments.
Both structural and cyclical factors are fueling investor optimism in the Indian equity market. It is also becoming a sizeable share of the EM equity universe. India is now the third largest market by weight in the MSCI EM Index, after China and Taiwan, at 15%. A short-term headwind is high valuations, with forward price-to-earnings at 22x (one standard deviation above average). This is somewhat tempered by high earnings growth over the next 12-18 months (with consensus looking for 18% growth), as well as the higher return-on-equity of its market versus EM peers. Active management is key when investing in India, with areas of strong growth expected in: consumer goods, financial services, business process outsourcing and technology support.
India's favorable demographics - combined with reforms - are powerful tailwinds
Working age population growth, 2022-2032, millions
Source: Oxford Economics, J.P. Morgan Asset Management. Working age population defined as those aged 15-64. Southeast Asia include: Indonesia, Vietnam, Thailand, Philippines, Cambodia, Singapore and Malaysia. Data are as of August 23, 2023.
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