As the Asian economy has grown in size and importance, we have been slowly adding the single-country funds devoted to Asian countries to our international funds list. The first country we added was Japan, and much later China. What we required in order to present you with the added risk of a fund dedicated to a single country was a fairly large and diversified capital market that offered a portfolio manager the opportunity to diversify the portfolio even within a single country.
As the Japanese and Chinese economies grew and new industries blossomed, we believed that test was met. We now believe that the Indian economy and capital markets also meet our test. With this issue, then, we are adding three India funds to our list: Matthews India, WisdomTree India Earnings (ETF) and PowerShares India (ETF). We may add one or two other funds to the list over the next few issues. We have many more Mutual Funds Investing Help Articles Now Available.
Why India?… Frequently in the past when we spoke about Asia and its rapid growth we cited the twin dynamos powering that growth, China and India. Coupling the two served its purpose, but we now believe the two are taking on separate identities. As we have been listening and reading over the course of the past four or five months, we have come to the conclusion that there are differences in the paths that China and India will be taking over the months ahead. Both will be growing rapidly (or intend to) but one is concerned about too-rapid growth (China) while the other is aiming at even faster growth in the future (India).
To sort things out, and to get a better feel for the Indian economy and the capital market, we spoke to Sharat Shroff, the portfolio manager of the Matthews India Fund. The first point that Shroff made is that “some of the days ahead for India (speaking of growth) may be better than what has been seen over the past two to three years.” For some historical perspective, Shroff pointed out that India’s growth rate picked up after the government adopted a policy of opening up the economy in the early 90’s. Since then, as more reforms were gradually introduced, growth has picked up further. By 1995, India’s growth hit the high single-digits range and remained there (on average). Such growth is now taken as the benchmark.
Shroff emphasized that what makes India’s growth different from other emerging countries is that in large part it comes from domestic demand, not from exports or commodities. There is no large-scale overhaul that India has to undergo, he remarked. What Shroff is driving at is that in the post-recession world China’s trade surpluses and the U.S. deficit will have to shrink since they are unsustainable. India faces no such issues.
The second point advanced by Shroff is that the private sector accounts for roughly 80% of India’s growth. The significance of that is that in India we are talking about businesses that are oriented toward profits and return on capital. This is not always the case elsewhere in Asia. Because of these conditions, India offers the investor a chance to invest in high quality companies with solid business models.
As for Matthews India, Shroff said that the fund does not necessarily invest in the large cap, world-renowned companies (the Indian blue chips). As Shroff put it, if you compare our portfolio with the benchmark, you will notice that two-thirds of our portfolio is made up of small- and mid-cap stocks. We try to be a bit more forward-looking. What the fund is looking for are those (smaller) companies that are “participating in the country’s growth and have the potential to become one of the larger companies two, three or maybe five years from now.”
The Indian market…We asked Mr. Shroff, what index one should watch to keep track of the Indian market. He answered that the Sensex is the traditional index followed. But in recent times, the professional community pays more attention to the S&P CNX Nifty Index.
As for valuations, the Indian market, says Shroff, is selling at a price-earnings ratio of about 15-16 times and at about three times book value. This is slightly above historical average valuations. Also Shroff pointed out that the Indian market has traditionally been expensive compared to its emerging market peers. The premium has ranged from as low as 15% to as high as 45%. Right now he puts the premium at the lower end of the range.
There is some justification for the premium, he added. The return on equity for Indian firms is in the 18-20% range, which, as he put it, “is quite robust.” Another reason refers back to the internal sources of India’s growth so that you get less volatility than you do from a “commodity producer.”
That is not to say that the Indian market is not volatile. “Even though the economy may be dancing to its own tune,” Shroff warned, “when foreigners were pulling out money from all emerging markets in 2008, the Indian market went through a very severe correction. (In fact) in the last three or four years the Indian market has shown some correlation with the S&P 500.” (We find that recently to have been true of emerging markets as a whole.)
Shroff turned to the issue of volatility more than once. He was preaching to the converted. We are restricting our advice concerning the Indian funds to Venturesome investors only. This is the same policy that we have been following with regard to the pure China funds. The policy is not written in stone, but the world economy would have to be functioning closer to normal before we would consider any relaxation.
After the interview with Shroff, we were even more convinced that the single-country India funds belong in our fund list. Not only is India growing rapidly, but we expect to see the emergence of more investment — worthy companies as opportunities arise. Considering the potential, you can appreciate why Asia and the emerging markets, in general, have become the center of the investment world’s attention. We have many more Mutual Funds Investing Help Articles Now Available.