Indian Equities Struggle Amid China's Growing Influence

India's Stock Market Was One Of the Few Bright Spots In Asia Last Year. However, Analysts Believe That High Valuations And the Increasing Attractiveness Of China Will Lead To a Bumpy First Half.

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In 2022, the MSCI India index rose 1.6%, while the comparable benchmark for China declined by 22%. While China's economy was struggling with the economic impact of its zero-Covid policy and a sharp slowdown in the property sector, India's economy performed well as the pandemic eased.

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As China's government moves to address two major problems, many investors are comparing the relative merits of Indian and Chinese stock markets. One complaint that has resurfaced is that Indian equities are expensive when compared on a price-to-earnings basis. On December 30, the MSCI India index was trading at a forward price-to-earnings ratio of 21.42, while the ratio for China was 10.43 and for the wider emerging-market index was 11.29, according to MSCI data.

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Herald van der Linde, head of Asia equity strategy at HSBC, said that investors generally like the story of India and its companies, but struggle with the high valuations.
According to data from Bank of America Corp, foreign investors sold a net $16.4 billion of shares in India’s stock market last year. This caused foreign ownership of companies in India’s Nifty 500 index to drop to its lowest level in five years, hitting 18% in September 2022.

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Manishi Raychaudhuri, head of equity research in Asia Pacific at BNP Paribas, said that Indian shares have historically traded at higher earnings multiples than their Chinese counterparts. He said that Chinese companies often have easy access to cheap domestic funding sources and typically emphasize profit growth, whereas Indian companies are more likely to focus on return on capital.

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Over the past 25 years, Indian shares have traded at an average forward price-to-earnings premium to Asia excluding Japan of roughly 40%, according to BNP Paribas data. They are now trading at a premium of around 74%. This means that Indian shares are currently trading at a much higher price-to-earnings ratio than other Asian shares.

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Foreign investor sentiment was also hurt last year by the performance of the Indian rupee. The currency lost more than 10% of its value against the U.S. dollar in 2022, as the Federal Reserve aggressively raised rates. That put pressure on Indian companies that rely on imports to run their businesses.

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Many foreign investors are selling their Indian holdings and shifting back to Chinese and Hong Kong stocks in hopes of a Chinese stock market comeback.
Analysts expect that foreign investors will continue to reduce their exposure to India over the next six months. However, they say that the market could perform better in the second half of the year. This is partly because India’s economy appears to be strong. The Asian Development Bank projects that India’s economy will grow by 7.2% in 2023, compared with 4.3% growth in China. U.S. economists are still expecting the country to fall into recession this year.
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Anish Tawakley, deputy chief investment officer for equities at ICICI Prudential Asset Management Co., said that, as a domestic investor, he sees foreign selling as an opportunity to invest in a healthy economy.

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Systematic investment plans (SIPs), in which investors periodically invest sums into mutual funds, have been a major source of domestic demand in India over the past few years, according to Mahesh Nandurkar, an equity analyst at Jefferies. Indian mutual funds collected the equivalent of $18.33 billion through SIPs in 2022, up 31% from the prior year, according to the Association of Mutual Funds in India.

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According to Mr. Nandurkar, mutual-fund flows into India's stock market have more than covered outflows from foreign investors.