The Indian economy is estimated to be the most resilient and strong market from 2020 to 2040. This is leading to a strong performance of the domestic stock market compared to its peers. The rising strength of domestic macros led by reforms, the world’s need to diversify with Euro and China plus strategy, and the lack of credible alternatives in other Emerging Markets, are making India the best opportunity. This has led to a decoupled stock market compared to the world equity markets during the year. The fact that FIIs’ investing in India can intensify further is opening discussion of a decoupled stock market. However, rather than decoupling, we should expect a strong outperformance of the Indian market on a long-term basis. This is because a complete decoupling of the stock market is unlikely due to the high correlation with the global financial market and domestic cycle. The short-term trend of the domestic market is estimated to be strong, but you are advised to be vigilant on a short to medium-term basis.
A strongly decoupled Indian economy
Undoubtedly, India will be the only large and diversified economy to experience rapid growth. Fiscal fundamentals are also good, adding wings to domestic performance. India has overtaken China to become the fastest growing economy in 2021 and is anticipated to continue. India is on track to become a USD 10 trillion economy in 2030, up from USD 3.5 trillion in 2022, and the world’s third largest economy by 2047.
Step-up from services to a manufacturing hub
Indian manufacturers are developing as a credible alternative to Chinese and European factories. Many industries like IT, Pharma, Chemical and Auto are offering reliable goods and services to developed and developing countries. In addition, the subsidiaries of many global companies’ are actively considering outsourcing from their Indian subsidiaries at lower cost and good quality. Make in India has evidently paved the way, creating an opportunity for Indian manufacturers to establish themselves as global suppliers of intermediary and final products.
The industrial reforms undertaken will kickstart a long-term growth cycle in the Indian manufacturing sector. As global firms demand a de-risk from China, India is being actively considered as a manufacturing destination. The government is creating the right investment environment, ideal macroeconomic structure, and removing the obstacles for foreign direct and institutional investors to invest in India as a long-term destination. In the long run, this is expected to transform India into a global manufacturing hub. The actual benefit of the Production Linked Incentive scheme (PLI Scheme for large scale manufacturing for 14 sectors) is anticipated to spur actual production from 2024-25. More sectors are expected to be added to the scheme. This will provide a push for current and future FDI and domestic private expenditure. The Indian economy is also experiencing record gain from a stable and reformist government.
Will a strong economy lead to a decoupled stock market?
A robust economy leads to a strong performance of the stock market. However, a complete decoupling of the Indian market from the global markets is unlikely. It is subjective to assume that something negative occurring in the background would not affect India. It will depend on the degree of the fall, the strength of the domestic environment and the ability to absorb the change. A deviation in the global risk brings volatility in all countries, accordingly.
The ups and downs in the global financial markets have a direct correlation to the rest of the world because it impacts the confidence of the financial system. This leads to changes in the cost of funds, risk appetite and availability of funds. The same has affected the performance of the Indian market in the past. However, it was able to maintain its strong performance in context to other emerging economies on a long-term basis.
India’s long-term stock performance
To make a fair comparison of India with the rest of the world, we will use MSCI Index data for a USD based peer-to-peer evaluation. On a one-year return basis, Indian stock market has decoupled marginally from the rest of the world. On a 10-year term basis India has decoupled EMs but outperformed developed countries.
Instability in the global market has impacted the performance of the world stock market from 2020 onwards. The rise in global risk has had a significant impact on the performance of the stock market and emerging markets, which have provided a zero percent return over a 10-year basis (in USD terms). At the same time, developed markets provided a decent return of 7%. The performance of the Indian market is best showcased in the last 2-3 years.
US is and China was the favorite market for the world stock market. China lost its traction from 2018 onwards due to the consistent economic slowdown which worsened postpandemic. A similar trend is noticed in other Asian and EMs, as well. This also impacted the performance of EMs as China and other countries account for a large proportion of MSCI indexes. It is now anticipated that the weight of India in the MSCI indexes will increase in the future, from the current 14%. The MSCI India chart clearly shows that the Indian market is highly co-related to global and domestic uncertainties. India was severely impacted during the periods of the 2000 Y2K issue, the 2008 global financial crisis, world and domestic economic slowdown, and the 2020 pandemic. So, we should continue to presume that the ongoing uncertainties of high inflation, high interest rate cycle, and recession will influence India, accordingly. India is the most expensive market in the world today. It is because India is expected to be the most thriving economy. It makes sense to assume that the best will command the highest price or valuation. And during a bull run, the value increases, while during a bear phase it decreases.
Today, we are at 90% and 40% premium compared to the MSCI-EM and MSCI-World, respectively. It is a challenge to estimate how much more this premium valuation will sustain and expand. We can anticipate a new high if global liquidity continues to flow to India.
With a consolidation phase trading at a 10% discount to peak valuation, the near-term view appears positive. However, there are short to medium-term risks which the global market must deal with: rising interest rates and hawkish monetary policy triggering a recession. Some analysts assume that inflation may stabilise by the end of the year as goods supply increases due to the opening of the economy. If this really happens, the recession fear will diminish, and monetary policy will stabilize.
Even if we overcome these economic headwinds, the key question will continue to be how much longer this positive trend will persist. No doubt that the long-term outlook is robust, but over the medium-term, it is advised to remain cautious. It is rational not to expect a decoupled stock market and to expect a modest return in the short-tomedium-term basis. The ideal strategy will be to have a balanced portfolio approach with a mix of Equity, Debt, Gold and Cash. The segments which look worthwhile are Value stocks, Consumptions, Private banks, Manufacturing and Green initiatives companies. IT and Pharma are also good value buys on a long-term basis. The valuations have corrected after the weak performance during the last one year. But volatility is expected in the short-term due to a fall in demand as a result of growth slowdown.