'The recent decline in the Indian equity markets is not only expected but warranted,' says founder and asset manager at Quantum Advisors
Despite the Nifty 50 index falling steadily since last September, some asset managers believe it’s only a matter of time before Indian equities rebound.
Ajit Dayal believes institutional investors should be allocating to India over the long-term, not letting short-term risks drive dedicated allocation towards India’s current economic environment.
Over the past several months, Indian markets have corrected due to a slowdown in economic activity, leading to a fall in corporate earnings expectations, economic uncertainty and high valuations ahead of the new financial year.
While the slowdown could be exacerbated by President Donald Trump and trade wars, Dayal, founder of India-based Quantum Advisors, noted the reasons for it are “mostly internal” which includes the issue of India’s market being overvalued.
“The recent decline in the Indian equity markets is not only expected but warranted and offers long term investors an opportunity to calibrate their allocation and exposure to India. Having simple, realistic expectations from India, whether as a democracy, as an economy, or from the perspective of investing is crucial for long-term success,” said Dayal.
Institutional investors, particularly pension funds, have long been hesitant to make direct allocations to Indian equities. Instead, they typically rely on broad emerging market strategies that lump India in with other economies.
Dayal believes this approach fails to capture the country’s distinct growth trajectory. He points to the entrenched biases and misconceptions that continue to hold back capital that should be flowing into India.
“There’s obviously a home bias,” he said. “Every pension in the world has a home bias. They invest more in their home country with less outside. If you step outside the home market, they have to be comfortable with governance, policies and taxation rules.”
But Dayal believes the data tells a different story, pointing to India’s consistent economic expansion over the past several decades, with GDP growth averaging around 6.2 per cent annually since 2000.
“If you looked at India's GDP over 44 years, we've had 11 governments,” he said. “Across 11 governments, we've mapped while each government was in power, what the rate of growth of India's GDP was… the average part of India has always been higher than the [global] average, roughly by twice.”
Additionally, he sees India’s relatively decentralized political system as an advantage rather than a liability.
“Completely contrary to what people believe, ‘Oh, India must have a strong government.’ No, India needs coalition governments,” he said. “When you have a coalition government, you're so busy fighting amongst yourself to stay in power… If you leave us alone, we flourish. Less government is great for markets.”
A major concern for institutional investors considering India is valuation. Indian equities often trade at a premium to their emerging market peers, but Dayal argued this premium is justified.
“The private equity ratio of India is about 35-40 per cent premium to the ratio of emerging markets,” he said. “There's a reason for that because ROEs are better, companies are better.”
The problem, he explained, is that too many investors chase growth themes without understanding the market’s structural realities.
“In the hype towards India, we have seen many investors expecting India to grow at a faster pace or who have bought into a theme. With that expectation, they tend to invest in riskier, illiquid assets to try and earn higher returns. When those misguided expectations are belied, we see these investors wary of allocating again due to that unpleasant experience,” said Dayal.
Notably, as India does well, an EM manager will reduce their allocations citing valuation, which can further reduce India’s weight in an investor’s portfolio, noted Dayal.
“It is detrimental to not have dedicated allocation to India because investors then lose out on potential long-term returns.”
So why are pension funds still under allocated? Dayal noted it comes down to inertia and a reluctance to take on perceived risk.
“Investors allocate to countries based on this expected link between GDP and asset returns,” he said. “India is already approximately 4 per cent of global GDP and likely to rise in share as India grows at about 2 times the rate of global growth. India deserves a higher allocation,” he explained.
From an investment standpoint, he sees Indian public equities as the best way to allocate substantial amounts of capital, going so far as comparing them with the US.
“Investors should look at Indian public equities on par with their allocation to US equities,” he said. “Not in terms of weightage, but in terms of it being a return-generating and wealth-compounding asset class in the long-term,” he highlighted.
Since 2000, India’s nominal GDP has compounded at an 11.6 per cent rate in local currency terms, while the MSCI India Index has delivered an 8.6 per cent return in US dollars.
Despite that performance, Indian public markets still attract less than 0.3 per cent of global institutional assets under management.
“From our perspective as a country, there's really only one risk, and that is job creation,” he said. “Interest rates moving up and down, change of government, all of that is a risk. The only risk that you face is the social unrest because the government of India is unable to create jobs.”
