India pips EM peers in latest market uptick as US stimulus brings hope

2020 underperformance narrows; Experts say going further outperformance could be a challenge

The domestic markets have raced ahead of their emerging market (EM) peers in the latest uptick seen in global equities triggered by optimism around the US stimulus package. Since last month’s lows on September 24, the Nifty has rallied 11 per cent. In comparison, the MSCI EM index has gained only 7.4 per cent. The top three weights on the index — China, Taiwan, and South Korea — have gained between 3.6 per cent and 5.3 per cent.

“We reckon three factors — a differentiated policy response, strong corporate action through the pandemic, and an attractive starting point of relative valuations, have helped India’s showing. For this outperformance to be sustained, India needs to continue delivering a policy that lifts its potential growth in the eyes of market participants,” said Morgan Stanley strategists Ridham Desai and Sheela Rathi in a note India Outperforming EM, Finally.

Still, India’s year-to-date returns lag EMs by 360 basis points (bps). However, the latest upmove has helped close the gap. Until May, India was a major laggard; its returns trailed the MSCI EM index by over 1,000 bps.

With the IMF slashing India’s economic growth forecast further, some believe sustaining the outperformance could be tough. On Tuesday, the lender in its World Economic Outlook predicted that India’s GDP would shrink 10.3 per cent in the current fiscal year. In June, IMF had predicted a contraction of 4.5 per cent — the downgrade in outlook being the worst for a global economic powerhouse. 

“Indices are rising on hopes that unlock measures will revive growth. The reduction in Covid cases has propped up sentiment. But the rally will be difficult to sustain because valuations are no longer sustainable. Some firm recently said capacity utilisation would be just above 50 per cent during the second half. If that’s the case, earnings will not improve. Further, there is consensus that the economy will shrink 9-10 per cent in FY21. Even though there will be a bounce-back, our absolute GDP in FY22 will be less than what it was in 2020,” said G Chokkalingam, founder, Equinomics Research & Advisory.

The latest upmove has been underpinned by a revival in foreign portfolio investor flows. Also, buying in sectors such as banking and information technology — which have significant weighting on the benchmark indices — have helped propel gains. 

Experts say the US election outcome could dictate flows into EMs.

“From now on, India’s performance will largely be in line with other EMs. Overseas flows into the EMs will continue if Joe Biden gets elected. Biden’s election will reduce tensions with China, and there will be more fund flows into Asia and China. India will get a part of the flows according to its weight. But we will not be a big beneficiary even if global trade picks up,” said Andrew Holland, CEO of Avendus Capital Alternate Strategies.

After the latest upmove, benchmark indices are only 3 per cent shy of a new lifetime high. However, valuations — as measured by the price-to-earnings and the price-to-book ratio — are in the expensive territory.

“Return correlations across stocks with the equity market have risen to levels from where they tend to ‘mean revert’. This means we have exited a macro market and entered a stockpickers market. The broad market looks very attractive versus the narrow market (Nifty and Sensex) and, hence, we like mid-caps,” said Desai and Rathi.