Idea of the Week: Choosing Between India and China Isn’t a Matter of Tossing a Coin
Almost since the birth of the BRIC concept a decade ago, India has toiled in the shadow of China, its fellow Asian emerging superpower. But the facts show that Indian stocks have beaten their Chinese counterparts over much of that period, and the potential for reforms within India may continue to make owning Indian stocks attractive on both an absolute and relative basis.
Released: October 3 2012
Length: 3 Minutes
Since Jim O’Neill, then head of global economics research at Goldman Sachs, first coined the phrase “BRIC” in 2001 to refer to the four rapidly-developing emerging economies he believed were poised to become economic superpowers, China has won the lion’s share of the attention. Even today, economists are anxiously debating the extent of China’s economic slowdown. To the extent that the headlines deal with fellow Asian BRIC member, India, they take a dismissive tone. To some observers, China now plays such a significant role in the global economy and is still growing so rapidly (albeit at a slower pace than it once did) that deciding not to invest there isn’t really an option. In contrast, even Indian media reports now portray their financial markets as having lost the battle to attract attention away from China, and at risk of losing global investors to Brazil.
But a closer examination of India’s fundamentals suggests it may be worthwhile for investors to drop their preconceptions. India hasn’t fared more poorly than China – indeed investors in Indian stocks have earned better returns than those who have bet on their Chinese counterparts. And the future opportunities may prove equally appealing, given the heightened level of pessimism surrounding the outlook for China (now the world’s second-largest economy), in contrast to a more benign outlook for economic growth in India (which ranks #8 among global economies).
Over the last decade, India’s stock market – as captured by the performance of the Thomson Reuters India Index – has soared 600%, while the Thomson Reuters China Index (in red, below) gained about 90%, less than the S&P 500’s 110% return (represented by the blue line in the chart below. (In all cases, the data includes reinvested dividends.) Since the financial crisis first began to roil markets five years ago, India’s total return has been flat; China, on the other hand, has lost half of its value. Both indices hit their recent highs in late 2010. This year, Indian companies are once more taking the lead, advancing 22% (as evidenced by the TR India index) while the Chinese market (represented by the TR China Index) is down 1%.
The question at hand is whether India can manage to sustain that apparent edge over China, and generate stock market returns that continue to leave its Asian rival in the dust? For insight into that question, we turned to Oxford Analytics forecasts for each country, available via Datastream (Figure 2). Here, the year-over-year GDP growth figures appear to show a mixed picture. Oxford Analytics calculates that India’s GDP slowdown should end late this year, before China’s does, although it estimates that the rate of growth for China will remain higher until 2016.
Another clue to the level of economic activity within the two countries comes from the year-over-year change in producer prices. In this case, the year-over-year change in producer prices in India is slowing, to around 6%. The Reserve Bank of India, the country’s central bank, appears to be trying to tackle the tricky job of simultaneously taming inflation while at the same time stimulating higher economic growth. In China, however, that year-over-year change in producer prices is showing a contraction rather than growth, falling 3.5% in August, even more so than the 3.2% decline economists had been expecting.
Turning to look at the earnings outlook for the companies that StarMine tracks in these countries, the outlook also favors India. StarMine’s Predicted Surprise for Chinese company earnings for this year currently stands at -2.8%, while for India as a whole, it’s half that, or about -1.5%. Over the next 24 months, analysts expect China company EPS growth of 13.6% (as measured by StarMine for the companies followed in each country compared to 15.0% for India. Those companies in China expect to see a rate of growth in revenues over the same period of 11.7%, beating out the 9.3% forecast revenue growth for Indian companies. What is just as significant is the direction of change in analysts’ forecasts: analysts are cutting back their revenue growth projections for Chinese companies, while those for Indian companies have been inching higher. StarMine calculates that aggregate analyst estimates indicate that corporate earnings will grow some 8.7% over the next five years in China, although the market is pricing in a 1.7% earnings growth decline. Investors in Indian stocks are pricing in only 3% earnings growth over the next five years, while analysts are anticipating the actual growth rate will be closer to 9%. Based on this data, equities in both nations appear to be trading at a discount today, with the gap between the market-implied growth and the level of growth predicted by analysts in China being wider, perhaps due in part to the anxiety surrounding that country’s overheated real estate market.
One of the elements that has weighed on the perception of India as being an attractive place to invest has been the idea that the country’s economy suffers from being overly protectionist, to the exclusion of greater foreign direct investment (FDI). India’s president Manmohan Singh recent proposals for economic reform, however, include one to open up foreign direct investment in the retail sector, enabling supermarket chains like Wal-Mart Stores and Tesco to set up shop in the country. Presumably Singh hopes to replicate his own past success; two decades ago, as finance minister, he threw open India’s auto industry to foreign direct investment, a move that fostered competition and kick-started growth. In this case, Singh’s stated goal is to help the “Aam Aadmi” or “common man”. That doesn’t mean that there won’t be an opportunity for stock market investors worldwide to profit from this wave of reform over the longer haul as well. Already, the market has rallied in the weeks following Singh’s speech last month, perhaps beginning to price in approval by India’s Parliament.
On the margins, there are signs that both countries have some small edge over each other in different areas. But the one big wild card in India’s favor today may end up being this program of economic reform. These new initiatives today may give investors in Indian equities an opportunity to tap into still-unrealized potential and prosper in the coming years. But ultimately, just as investors shouldn’t overlook Indian stocks in their rush to embrace the Chinese success story, neither should they spurn China and confine themselves to owning Indian equities. Global investors today simply cannot ignore the return potential of maintaining exposure to the equity markets of both countries for the long run.