Funds Europe, the sister publication of Funds Global Asia, hosted an India investment discussion with two seasoned experts and asked if India is the ‘last one standing’ from the Brics phenomenon. We also hear that for India, the inclusion of Indian bonds in a major index may not be the desired prize many would think it to be.
, CEO, UTI International Singapore Pte LtdGaurav Narain
, portfolio adviser, India Capital Growth Fund and co-head of equities, Ocean Dial India Pvt Ltd.
Funds Europe – What is your current economic outlook for India? Do you consider India the “last person standing” of the other Brics countries?
Praveen Jagwani, UTI International
Jim O’Neill, who coined the term Brics in 2001- an acronym for Brazil, Russia, India, China and South Africa - admitted a decade later that it “doesn't make any sense”. The constituent countries are strikingly different in their drivers, and while it seemed like a nifty idea for investing then, the reality is Brics failed to bear the expected fruits.
Russia has demolished its hopes of reintegration with the global economy for a few decades to come. To highlight a recent example, China has emerged as enemy number one with question marks on its stability at the recently concluded G7 meet in Japan. As per Reuters, the G7 summit issued a communique that singled out China on issues including Taiwan, nuclear arms, economic coercion and human rights abuses, and widening tensions between Beijing and other countries, including the USA.
China is a superpower, no doubt, and will remain a relevant and meaningful player on the geopolitical stage for many decades to come - but will it attract investment flows? Does the world trust China, given its questionable approach to human rights issues, belligerence with neighbouring islands, the Taiwan problem, a massacre of democracy in Hong Kong, people disappearing, and more?
Brazil's re-election of former president Luiz Inácio Lula da Silva has not spelt good news for the country either. Lula's attempts to undo the reforms of his predecessors with flip-flop policies are making the country look like the poster child of all that is wrong with emerging markets.
"While it seemed like a nifty idea for investing then, the reality is Brics failed to bear the expected fruits."
In sharp contrast, India has displayed consistency in economic policies and political continuity, making the nation a dependable investment destination among other emerging markets. According to Morgan Stanley projections, India is on track to become the world’s third-largest economy by 2027, surpassing Japan and Germany, and to have the third-largest stock market by 2030.
India ought to be understood within the framework of CRG – consumption, reforms and geopolitics. Large consuming middle-class and structural reforms by the Narendra Modi government have created a sustainable engine of growth. With a 1.4 billion population comprising 400 to 450 million middle-class people, there is clockwork consumption of everything ranging from FMCGs [fast-moving consumer goods], automobiles, clothing, real estate, luxury items and more. Reforms have merely accelerated this process of adding more people to the middle class, giving the middle class an aspiration, a platform for higher incomes, and, subsequently, higher disposable income.
Geopolitically speaking, India became globally relevant ever since Donald Trump started his anti-China rhetoric. A series of incidents have made the world nervous about China as the country doesn’t play by the rules of the free world. This is not to say that other countries would completely stop doing business with China, but when they are nervous, fresh money doesn't pour in.
Mazda has shut down its plants in China and Apple is relocating its supply chains to India. Considering the larger context, Western corporations are hunting for a reliable option for relocating their supply chains to manage their business cost-effectively. India is rapidly becoming an obvious choice.
Gaurav Narain, Ocean Dial India
The Brics concept emerged in the 2000s when these were the high-growth, developing economies. Since then, China - the Goliath - has gone on a different trajectory, but time is testimony that every economy is different.
Considering the challenges every economy has faced recently, India has emerged as the shining star of the lot. Long-term prospect and democratic environment, coupled with its large consumer base, have only improved over this last decade.
Disruptive reforms have been implemented across virtually every sector of the economy under the Modi government since 2014. Along with infrastructural reforms, a prodigious change was the big drive towards digitalisation. Endeavours in this field have given modern India an advantage over the rest of the world, including the West. India’s digital infrastructure is at par with, if not better than, the best, government-owned and low-cost.
India took the world by surprise during the pandemic. Recovery and coping strategies worked better than expected because of reforms already undertaken. No corporate or banking issues surfaced when the economy had just closed down. Thanks to the robust digital infrastructure, the government successfully targeted benefits and subsidies in a directed way without affecting the fiscals as it did for the rest of the world.
In a post-covid world, India is armed with a banking system with non-performing assets at historical lows, well-functioning corporates, a government with relatively healthy financials compared to the rest of the world, and adequate funding to push for the growth of a well-positioned economy.
With worries surfacing over China, India has been getting a lot of incremental business primarily because of two factors. Firstly, it has a large population similar to the massive domestic economy of China. Secondly, several structural obstacles like infrastructure, regulatory environment, ease of doing business and others also got fixed, thanks to various government initiatives.
Funds Europe – What are the benefits and risks of investing in India now? Currency impact appears to be a salient issue, perhaps partly driven by foreign institutional investor flows in and out of the country.
India's regulatory environment has improved, the fiscal situation is decent, the currency situation is in control, so the government's focus is on sustaining economic growth. Projections from global financial institutions indicate that the country is poised to be the fastest-growing large economy for years to come. Now it is all about employing the younger demographics in the workforce, so everything is targeted towards development and expansion.
This shift has not just taken place at the central government level but also at the state government level. The whole mindset has changed. Gone are the old days of ministers engaged in caste-based politics; the current focus is on employment, development and infrastructure. Thanks to the evolution of the telecom infrastructure, citizens are now better connected and instantly updated about domestic and international happenings. Now it is all about ensuring that growth gets the job done.
In India, almost 50% of any company, on average, belongs to the promoting families. Certain sectors also limit foreign ownership, so as the free float comes down, so do the weights. Hence, India is under-represented in many global indices. China currently represents approximately 30% of the MSCI emerging market index. However, India’s share in the emerging market index has jumped quite a bit in the last year or two. It’s a matter of time before India gains recognition on that front.
The International Monetary Fund recently highlighted in its ‘Stacking up the benefits lessons from India's digital journey’ report how India has developed a world-class digital public infrastructure to support its sustainable development goals, with its journey having lessons for other countries embarking on digital transformation journeys. The world's largest biometric ID system, Aadhar, has helped create a digital infrastructure to disrupt financial services, efficiently economise service delivery systems and boost the start-up ecosystem. Aadhar was a part of the government's efforts to ensure that every individual had an identity - even if they were illiterate or had no birth certificate. Over two or three years, about 1.3 billion people had a base identity comprising a fingerprint and a retinal scan - all digital. Indian banks and other service providers now use Aadhaar for know-your-customer verification of customers.
"Why would any country seek inclusion on a global bond index? The single biggest reason is to diversify its capital sources, and honestly, the Indian government doesn't need it at this point."
Another milestone achieved is the United Payments Interface (UPI), the free digital banking platform that has every financial service provider linked to it. Simply put, it is an instant payment system facilitating inter-bank peer-to-peer and person-to-merchant transactions to instantly transfer funds between two registered bank accounts via mobile phones. Top-tier fintech companies have piggybacked on this revolution to create an environment conducive to financial inclusion across the country. Data shows India accounted for the highest volume of real-time payments among global businesses, with over 40% of all such payments made through 2021 originating in the country.
According to a report by payment solutions provider ACI Worldwide, data analytics firm GlobalData, and the Centre for Economics and Business Research (CEBR), India made 48.6 billion real-time payments through 2021 – which is over 2.6 times higher than China, which is in second place with 18.5 billion real-time transactions. Fintech platforms and banks are using this to democratise the financial system based on the low-cost platform the government has provided them with.
Earlier, banks have been reluctant to service small towns or rural centres due to the costs involved. Today, even a vendor selling fruits on a cart has a simple digital payment system installed. Buyers can scan the QR code in their phone and make payments worth as low as ten cents - no cost to the common man, no cost to the vendor. This simple yet effective system has formalised the economy because one cash transaction is now converted to a tracked transaction. Changes such as this have bolstered confidence in the economy moving to the next level. India's sufficient foreign exchange reserves and stable current account deficit also act as buffers against external volatility.
Historically, global investors generally chose to invest in emerging markets to harness two benefits: higher returns and diversification. Let us consider the 20-year history of equity returns. Emerging markets have disappointed on both counts and neither did they give better returns nor provide diversification. In dollar terms, over the last 20 years, India's equity index has delivered better returns than not just China and MSCI emerging markets but also the S&P 500.
India still offers those twin benefits the world always sought but never got - mainly because India is a domestic consumption-dominated economy and not an export-oriented one. In a world flirting with recession or slowdown at best, relying on external buyers could be tricky. If global trade is declining and commodity prices are going downward, then an economy like India that is self-sufficient, internally driven, and supported by a youthful, growing, middle-class consumption is more dependable.
Despite the benefits, getting the big index providers to give India adequate weightage is a challenge. For example, as a $3.5 trillion economy, India is roughly 2.8% of the global GDP, India’s market cap is roughly 2.4% of the global market cap, yet in the ACWI (All Country World Index) India barely occupies 1.4%.
If you look at all the emerging market currencies, except for the Chinese yuan, the Indian rupee has been one of the most stable. Looking at the graphs for the Turkish lira, Brazilian real, the Russian rouble or the South African rand would reveal how volatile those currencies are, but the Indian rupee looks like a safer option. Its historical track record over 15-20 years is an average annual depreciation of about 3-3.5%, which does not seem to be such a big markdown if one is investing in equities.
Considering India’s forex reserves are now the fifth largest in the world, there is a fair amount of certainty around the currency and confidence in the Indian central bank. The view on the rupee is largely shaped by the global view of the dollar. Given the muted outlook for global growth, somewhere between technical recession and actual recession, the dollar is not expected to strengthen this year. In conclusion, we can expect the rupee to be reasonably steady.
Funds Europe – JP Morgan has Indian bonds on its watch list for inclusion in the JPMorgan Government Bond Index-Emerging Markets (GBI-EM) indices and could decide on inclusion in 2023. Would this inclusion be welcomed by bond investors? What has India done to elevate the status of its bonds?
Inclusion of Indian bonds in global indices has been a recurring theme for quite a few years, but one has got to examine what’s in it for India. Why would any country seek inclusion on a global bond index? The single biggest reason is to diversify its capital sources, and honestly, the Indian government doesn't need it at this point. The international and domestic flow of savings is adequate to fund all the fiscal expenditures of the Indian government in any given year, so the government is not motivated enough to look for external sources of capital.
I joined UTI 14 years ago and have been aware of the narrative that India is on the verge of joining a global bond index since then. However, I am not holding my breath anymore as I know there isn’t enough incentive in New Delhi to get this done. When global investors want a piece of emerging market local currency action, then JPMorgan Government Bond Index-Emerging Markets indices are their go-to option. You have countries like Bolivia occupying 5% of the index, and the country is only half the size of New Delhi.
If India were to be included, needless to say, it is going to be fantastic. The inclusion would mean more business for us in helping global investors access Indian bond markets.
"If you asked the chief information officer of a pension fund based out of Chicago or Stockholm, they wouldn't know or care about the settlement cycle a country operates with. They would simply say: "I want a piece of India and I want this much."
The main holders of Indian bonds are Indian pension funds and if bond markets were opened to foreign investors, the mark-to-market volatility would create havoc for the domestic pension system. Indian equity markets are freely tradable for foreigners, which entails volatility seen in markets. Having such volatility in domestic bond markets has little upside for the Indian government. Additional supply of debt capital is not worth the pain of swings in pension balances, so there is no push inherent push to seek external sources of capital for India. However, if India gets included in global bond indices, we would be delighted.
I would put a slightly different spin on it. The Indian bond market is quite illiquid, and the government has been trying for a long time to bring more liquidity without success. The intent is that once you open up the bond market you will get more liquidity, and in a sense, it will also lower the cost of borrowing for the government and, eventually, the corporate sector. The whole idea is to keep opening up the economy.
Historically, India has always been concerned about the volatility caused by foreign flows, but the central bank is a lot more comfortable with the external environment and the buffers in place today. What happens next would only be a natural progression.
There are some operational issues both parties are stuck on. For instance, the Indian government wants the taxation system to be the same for domestic and offshore investors so there is no discrimination between domestic and foreign investors, placing foreign investors at an advantage. Everything is currently settled in Europe, but the Indian government insists that trade settlement happens in India. This also has more to do with integrating the Indian markets globally - equity markets have been integrated, while the bond markets have not.
Funds Europe: January 27, 2023, marked the completion of the year-long changeover in the settlement cycle from T+2 (trade date plus two days) to T+1 and 80% of its equity market capitalisation is now T+1. Would this attract more foreign investors who have previously expressed concerns over time-zone differences and consequent trade-matching failures?
India is one of the few countries in the world which has moved to a T+1 settlement cycle. We moved to a T+2 back in 2003 - a progress reflecting the government and regulator's confidence in our digital systems. The regulators probably thought: "We have a hundred million retail investors, and every transaction is online, so why still work on a T+2 settlement cycle?"
Indian stocks accounting for 80% of the equity market capitalisation moved to the shorter T+1 trade cycle, and the transition has been seamless. We’ve had no issues in trade settlements, and it’s possibly one of the most efficient systems across world markets. After the Indian experience, one could expect the rest of the world to shift to a T+1 settlement cycle.
Any investor who ever wanted to invest in India was never held back by the pre-existing T+2 settlement cycle. Would the business increase because we have gone from T+2 to T+1? Probably not.
These are operational issues and people make investment decisions for the risk-return benefits they derive from global portfolios. If you asked the chief information officer of a pension fund based out of Chicago or Stockholm, they wouldn't know or care about the settlement cycle a country operates with. They would simply say: "I want a piece of India and I want this much." The rest is for the middle-office and back-office teams to figure out. The new system went live in January, but nothing significant has happened to Indian flows so far. However, a positive outcome of a shorter settlement cycle for the retail investor is that the funds are not blocked, and the systemic risk is lower.
Funds Europe – India’s first sovereign green bond went to auction recently with no restrictions on foreign investment, so can we expect demand for Indian green bonds going forward? Are there any ESG trends in India's investment industry that you would like to highlight?
ESG is growing in India. At the 26th Conference of Parties (CoP26) to the United Nations Framework Convention on Climate Change, Indian Prime Minister Narendra Modi declared a five-fold strategy — the Panchamrita — to achieve this feat.
Panchamrita includes objectives like India aiming to get its non-fossil energy capacity to 500 gigawatts by 2030, reducing the total projected carbon emissions by one billion tonnes by 2030 and achieving the net-zero target by 2070.
In 2021, the Securities and Exchange Board of India, or SEBI, mandated new sustainability-related reporting requirements for the top 1,000 listed companies by market capitalisation. New disclosure would be made in the business responsibility and sustainability report in an upgrade from SEBI’s existing reporting framework and a crucial step toward standardising sustainable financial reporting.
The pressure from investors and global companies cannot be ignored. Any company keen to explore business opportunities views ESG as a risk, and the pressures felt in Europe have flown down to India as well because all the large corporates have global linkages today. If you don’t meet the standards, that’s business lost.
As an asset management firm, we are noticing companies being more proactive, and some of our portfolio companies are using ESG as a positive factor to invest in. They are trying to be ahead of the curve by using ESG to procure more business and generate more investment interest. The challenge is to bridge the gap between what you have disclosed and what is implemented on the ground. Companies are now looking at it from a risk perspective. If you are not on top of your game, you have a business sustainability problem.
"Panchamrita includes objectives like India aiming to get its non-fossil energy capacity to 500 gigawatts by 2030, reducing the total projected carbon emissions by one billion tonnes by 2030 and achieving the net-zero target by 2070."
Because our investors are mostly European, there’s a lot of pressure on the portfolios we manage and advise on. We have started ranking each stock and observed a massive change over the last few years. We look at many small and mid-cap companies without much disclosure now, but they are waking up to the fact that there could be business risks.
The Indian government has raised about $2 billion for the green bond, majorly subscribed by the Indian banks that are required to make disclosures on both the asset side and the lending side. As the disclosures are published, one can position which bank is ahead of the other based on the information available.
India has established an ESG trajectory for itself, led mostly by the regulator and partly by the top multinational corporations. The regulator has mandated specific disclosures starting in 2023 for the top 1000 listed companies of India. Change is never easy, so kicking and screaming, we’ll eventually get these companies to the required level of disclosure and transition.
The problem lies in the lack of coherence on a globally acknowledged definition of ESG. Even within Europe, the Germans and the French cannot seem to agree on its constituents. Do we want exclusion? Do we leave out the polluting companies? Or do we work with them because that’s where you might get the biggest bang for the buck?
Even in the USA, ESG has become a highly politicised issue, with regulators taking the backseat. In such a global backdrop, it’s difficult for a third-world country like India to take a hard stance on anything. There is opportunity for asset managers if one can demonstrate that a specific pool of money is being utilised for the betterment of climate, conservation of the environment and related activities. A crucial element missing from the picture is intellectual and philosophical alignment.
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