Capital expenditure recovery to further boost growth
India’s higher growth, robust economic fundamentals, improved government finances, structurally lower inflation and positive real rates will remain attractive to global investors.
What is the investment outlook for Indian equities in 2024, given the prevailing macro environment (slowing global growth, geopolitical, higher rates)?
It is tough to predict the market’s direction, but we think concerns around geopolitics, global growth and rates are genuine and could present a challenging operating environment for equities in 2024.
Nevertheless, India is uniquely positioned to weather this challenging backdrop. Its structurally higher growth, robust economic fundamentals, improved government finances, structurally lower inflation and positive real rates will remain attractive to global investors. It is also seen as an ally of the West to counterbalance China, which should lead to higher foreign investments at a time when supply chains are diversifying.
The Indian government is creating an enabling environment by spending more on infrastructure and providing production-linked incentives to attract direct investments in manufacturing. Besides these incentives, India offers global manufacturers access to a large and underpenetrated domestic market and a low-cost labour force to rationalise production costs that cater to local demand and exports.
However, these are still early days – supply-chain diversification out of a dominant producer like China will take several years. India is seeing a rise in new manufacturing projects, but a lot will depend on their actual completion and development of ancillary industries around them for the benefits to start flowing into GDP and export growth.
Meanwhile, many investors worry about India’s relatively high valuations. But this is partly justified by its consistently higher return on equity. Also, index valuations hide substantial stock-level disparity – India remains a stock-picker’s paradise, and we continue to find several high-quality investment opportunities at reasonable valuations.
What do you think could surprise markets in 2024, either positively or negatively?
There could be a rise in volatility next year as the world’s largest democracy undergoes its general elections, held once every five years. Depending on the outcome, these elections could spring positive or negative surprises.
We strongly believe such volatile periods allow us to buy into high-quality businesses at attractive prices. India is a place where we can take a long-term view, given its strong underlying structural growth and relatively stable policy environment.
Within your portfolio, what has worked well in 2023?
We believe sticking to our philosophy and process of investing in high-quality, sustainable companies that we understand at reasonable valuations helped us during a volatile 2023. We remained overweight in best-run financials, consumer discretionary and information technology, balancing it with our underweight in low-growth utilities and energy with weak governance and expensive consumer staples names.
Our lack of exposure to Adani Group companies (which we never owned) contributed the most to our relative performance. These firms experienced massive losses after a US-based short-selling firm released a report highlighting concerns about the high debt levels and governance practices of India’s second-largest conglomerate. Within information technology, our counter-cyclical positioning moves (buying on dips) helped us generate alpha. Finally, our exposure to India’s manufacturing and infrastructure beneficiaries enhanced our relative performance in 2023.
What themes, sectors or regions would offer opportunities and potential risks?
We anticipate substantial growth in private-sector capital expenditure (capex) over the next 3–5 years. Despite a rise in interest rates, credit growth in India has already risen from mid-single digits in 2021 to high-teen levels in recent months. The structural shift in supply chains has begun manifesting in higher investments in sectors such as electronics and chemicals.
Capex is also expected to rise in other areas where the government is extending production-linked tax incentives, such as consumer and white goods, automobiles and auto components and textiles. Given their long runway for growth, we see incremental investment opportunities in all these areas.
An area where we are more cautious in India is in the mid- and small-cap space. Because of their strong outperformance versus large caps over the past 2–3 years, these smaller companies are now trading at extremely high valuations. This is despite mid- and small-caps experiencing historically higher earnings volatility and lower returns on equity versus large caps.
