Reflections from the US

India remains a prized long-term bet, but investors are hesitant due to concerns over valuation

I had the opportunity to spend some time with global investors and allocators in the US—many of whom represent sophisticated long-term capital and are thought leaders in their field. I was also there just as the Indian election results were being announced that very week. Here are some of my key takeaways:

There was surprise at the election results, as they were very much against the consensus, but no panic. Everyone was happy that Prime Minister Narendra Modi was back, as they could not understand the economics of the Congress. Some were concerned about the Bharatiya Janata Party’s (BJP’s) ability to handle a coalition, but they were in the minority. Most felt that a strong coalition with the BJP at 240 seats was not such a bad thing and believed it would last for five years.

Coalitions ensure that multiple points of view are heard and may better reflect the diversity of the country. While tough reforms in land and labour may get delayed, the results make it clear that India is not at risk of becoming like Turkey or Hungary. The predictability and stability of our growth may actually be enhanced by these results. Most did not expect the coalition partners to demand more than state-specific resources and hoped that the results would bring greater focus on economic issues and policies.

There were some fears of the government lurching towards populism. Will that be taken as the lesson from the weaker-than-expected outcome for the ruling party? The upcoming Budget will be watched very closely for continuity of policy. The government, in its second term, prioritised public investment over giveaways. Will this continue? Can they hold the line against populism? The continuity among the key ministers has given hope that this signals continuity in policy settings as well. There will, of course, be an enhanced focus on employment, but that is the key concern among voters and needs greater policy effort anyway. Greater efforts on education and skilling are to be expected and welcomed as well.

The key concern among investors is what reasons the BJP ascribes for its weaker-than-expected performance. How will this introspection change government policy? Will we lurch towards revenue expenditure at the cost of public investment? Will we relax the fiscal road map? Will big business be vilified? Will the government be able to incentivise global giants to set up in India through collaborative policy formulation?

There was also the expectation that this government will hit the ground running. Expectations remain high for policy reform, and everyone had heard of the 100-day plans ministries were asked to prepare. Indian markets were already priced for 7-8 per cent real gross domestic product (GDP) growth and 15 per cent-plus earnings per share growth. We have to deliver on this to sustain the premium valuations. A government slow off the blocks will be seen negatively and may rekindle worries about coalition politics.

On India allocations, the concern remains valuations. India is now clearly the most expensive market in the world. Domestic investors drive the markets, and while most understand the lack of alternatives for local investors, there is still worry on the sustainability of these flows. “How close to a bubble are we in local flows?” was a common question. Everyone was aware of the futures/options markets in India and the bubble-like spike in volumes.

The fact is that for the last 2.5 years, the net flow of foreign portfolio investors’ money into India has been zero. India is now at best a neutral weight for most emerging markets investors, having always been an overweight historically. For those allocators who were smart enough to have been in India early, they are rebalancing from the country and taking profits. For new flows, we will have to look at the global funds, which have not been in India historically or took profits much earlier. India’s continuously rising weights make it harder to totally ignore. Until markets catch a breath and consolidate for some time, I don’t think we can expect large foreign flows. The longer-term intention remains to raise weights in India, but there seems to be no urgency. Foreign capital continues to wait for the correction, which surging domestic flows do not allow to happen.

In terms of asset classes, one could sense the frustration with venture capital (VC) and some private equity (PE) funds. I was asked in every meeting about the Indian initial public offering (IPO) market. My reply was that the Indian IPO market is wide open and welcoming to any listing at the right price. I learned about the concept of DPI (distribution per investment) for the first time and was told that the ratio was extremely low for the Indian VC ecosystem. Given that most allocators had liquidity challenges, they wanted more distributions from their VC partners in India and could not understand why more VC-backed companies were not listing. I pointed out that public market investors have not made good returns from the VC-backed companies that listed in 2021 and 2022 (with the exception of one or two names). Thus, public investors were holding the line on listing valuations. I think most of the VC ecosystem will come under intense pressure to fast-track listings. These should be welcomed as most will be high-quality listings. This will add to the already growing IPO pipeline. These capital raisings will broaden and deepen our markets, prevent potential bubbles from forming, and should, therefore, be welcomed.

The views on China were mostly unchanged. Any rise in their markets will be used to reduce exposure.  Having already reduced the public equities exposure in China, they were slowly cutting their private exposure. Most Chinese funds had already pivoted to the Middle East and Asian sovereign funds for new capital. Raising new funds from the US was almost impossible.

Many of the global funds were also positioned incorrectly. There were many instances of getting the India call right but being in the wrong stocks, with massive positions in private banks, Indian information technology giants, and consumer-facing businesses. Many of these stocks had hardly moved in the last four years. Facing severe relative performance pressure, funds were stuck. Should they change their positioning now? Will the private banks finally start catching up? Most global funds are unable to keep up with the local indices. Long-term and quality-oriented funds are finding it very difficult to handle the current markets and the sectoral composition of market performance. The winning stocks/sectors of the last decade are now challenged. This shows no signs of changing as long as domestic flows dominate.

Net-net, the election results have not changed anyone’s minds on India. It remains a very good long term story — one of the best globally but very expensive. Global investors are hesitant to be sucked in today, and need a correction or, at the minimum, a period of consolidation. The two best markets over the last 30 years have been India and the US. Their scale and persistence of outperformance are impressive. They are also the two most expensive today. Does one play reversion to the mean and invest outside these two markets, or bet on continued outperformance? This is the question exercising the minds of the smart money.

The writer is with Amansa Capital