Valuation of India's premium to EMs and world market shrinks, shows data

Gap narrows by 25% since October; better growth prospects underpin valuations

Domestic equity valuation premiums to both the emerging and world markets have shrunk by a fourth since October. However, Indian markets remain expensive vis-à-vis most global equities, which, observe experts, is justified, given India’s better growth prospects.

Currently, the Morgan Stanley Capital International (MSCI) India Index commands a 12-month forward price-to-earnings (P/E) multiple of 21.6x.

By comparison, the MSCI Emerging Markets (EM) and the MSCI World indices trade at 11.3x and 16x, respectively, according to Bloomberg data.

In October, India’s P/E was 2.2x that of MSCI EM and 42 per cent higher than MSCI World.

Back then, the MSCI EM slipped to single-digit P/E, largely on the back of a sharp sell-off in the China markets.

The narrowing of India’s valuation premium comes on the back of underperformance in the domestic markets over the past few months, with markets like China and Europe playing catch-up.

China still trades at a modest P/E of less than 11x — nearly half of India’s. However, experts believe the gap may not narrow much.

“China has outperformed India handsomely in the past three to six months. India’s premium to China may still appear on the higher side, but we see little relevance of historical valuation data, given the likely lower growth of China in the future (weak demographics, near-high-income economy) versus India and continued geopolitical tensions between China and the US with its attendant risks on the long-term investment potential of China for the US investor,” reads a recent note by Kotak Institutional Equities.

The view assumes significance as it is often cited that the huge valuation gap between India and China could queer the pitch for domestic equities.

Most European markets and key Asian markets have seen an expansion in their P/E multiples this year. India, on the other hand, has seen slight derating, partly due to the sell-off in Adani Group stocks and also on the back of modest third-quarter earnings.

“Two Adani Group companies are part of the Nifty and the volatility in group stocks did impact overall valuations for India,” says U R Bhat, co-founder, Alphaniti Fintech.

“However, our economy is doing much better compared to peer markets. Our exports are not very high. We are insulated from global headwinds, except for specific sectors. As long as there is growth and there are good companies, there will be valuation premium. Given that Adani has got some support now, there will be some stability in the markets,” says Bhat.

Experts believe the valuation gap could remain at current levels and may not reach the levels seen last year, given near-term uncertainties.

“The valuation premium may not improve in the short term. The markets will look at the trajectory of rate hikes and the monsoon. Also, a reversal in foreign flows holds the key. The valuation gap may not drop significantly, but it may also not rise,” says Chokkalingam G, founder and chief investment officer, Equinomics Research & Advisory.

Credit Suisse Wealth in a recent note said India’s premium could remain at elevated levels.

“The recent underperformance of the MSCI India Index against the MSCI EM Index has led to a correction in its valuation premium, but we expect it to remain elevated,” it said, adding,

“We expect India’s equity market to be volatile and consolidate in the near term due to multiple headwinds. Nevertheless, we believe the near-term consolidation offers a buying opportunity as we believe that India’s long-term growth outlook is sanguine. We recommend that investors focus on sectors with high domestic exposure as the global outlook remains unfavourable.”