New era of Indian equity outperformance is dawning: Morgan Stanley

A new era of Indian equity market performance versus China is dawning, according to Morgan Stanley, which has upgraded India to overweight in its Asia Pacific-ex Japan (APxJ) list, and is now their most preferred market in not only in this region, but also in the global emerging market (GEM) pack.

India, according to Morgan Stanley, is the numero uno market in this category with a weight of 75 basis points (bps) now as compared to nil earlier.

Stock market LIVE: How are markets reacting to the upgrade?

"India rises from no. 6 to no. 1 in our process, with relative valuations less extreme than in October 2022. Multipolar World trends are supporting FDI and portfolio flows, with India adding a reform and macro-stability agenda that underpins a strong capex and profit outlook. We see a secular trend toward sustained superior USD EPS growth versus EM over the cycle, with a young demographic profile supporting equity inflows," wrote analysts at Morgan Stanley led by Jonathan Garner, their Asia Equity Strategist in a note.

Besides India, Morgan Stanly has upgraded Greece to overweight; downgraded Australia to underweight and moved MSCI China and Taiwan, to equal-weight from overweight; and Hungary to equal-weight from underweight. CHECK HERE

In India, Morgan Stanley believes, the situation is in stark contrast to that in China. India, it said, is arguably at the start of a long wave boom at the same time as China may be ending one.

"Simply put, India's future looks to a significant extent like China's past. Our economics team thinks trend gross domestic product (GDP) growth in China is likely to be around 3.9 per cent to the end of the decade versus 6.5 per cent for India," Garner wrote.

Among individual stocks, Larsen & Toubro (L&T) and Maruti Suzuki India have been added to Morgan Stanley’s APxJ and global emerging market (GEM) lists, while Titan Company has fallen out of favour in both these markets.

 

That said, from 2003 till 2020, the two markets – India and China – performed remarkably in line with each other – both having a tendency to outperform MSCI EM over the cycle. From early 2021, however, India has broken out dramatically to the upside, having outperformed China by over 100 per cent, as per Morgan Stanley.

"Whilst reversion to the mean is often a powerful force in finance, we think that this represents a structural break in India's favour that warrants a bias to an overweight versus a bias to equal-weight or underweight for China, with the medium-term driver being significantly higher dollar-denominated earnings per share (EPS) growth and return on equity (RoE) over the cycle for India versus China," Garner said.

Valuations, he believes, to some extent, reflect the market's understanding of this structural change – and indeed overshot somewhat last October in India's favour.

"Considering Indian equities and China equities as a pair in USD terms and using the MSCI Indices as the benchmark, the beginning of a new era of Indian outperformance compared to China appears to be dawning," Garner wrote.

The Chinese yuan renminbi (CNY), Morgan Stanley said, appears to have made a major top in early 2021, and on the BIS measure has weakened by 15 per cent in the last 18 months.

"If this is the beginning of a tendency toward a weaker exchange rate reflecting worsening fundamentals, we would expect profound negative implications for an equity market with almost no export earnings stocks. Here, the contrast is with Japan's equity market, where the correction of previously over-valued currency re-awakened interest in a market where around 45 per cent of revenue is sourced abroad. Meanwhile, for India a long period of stability in the real exchange rate seems set to end with a break to the upside," Garner wrote.