India has tremendous upside in the 21st century

India and growth

The long-term case for India is built on different growth drivers such as urbanisation, productivity gains through infrastructure investments and education, economic and capital market reforms, positive demographics, and alliance with the US, Japan, and Australia.

The big picture is that India has experienced a 4.8% annualised real GDP growth since 1951, which since 1992 has been lifted to 5.9% annualised growth including the decline in 2020. Excluding the Covid-19 year, India’s economic growth has been 6.4% annualised since 1992.

According to S&P Global it is estimated that the infrastructure gap in India alone costs about 4-5% of GDP due to inefficiencies and that the multiplier effect on infrastructure investment 1:2 in India, among the highest in the world. This combined with market reforms of the agriculture sector loosening the fixed price system are the two biggest low hanging fruits for the Indian economy that would unlock a lot of long-term growth and wealth.

Urbanisation has been a key economic growth engine of China for decades and India will follow in its footsteps. India had an urbanisation rate of 34% in 2017 which is on par with the US back in 1890. This provides the perspective of the enormous economic growth lying ahead for India as increased urbanisation drives efficiencies, network effects and wealth dynamics. India’s coming urbanisation will also drive a massive increase in the manufacturing sector and demand for commodities potentially driving the next super cycle in commodities.

A bet on Indian equities is a bet on the country opening up for foreign capital and delivering market reforms in its key sectors unlocking economic growth. Recently Biden summoned the leaders of the Quad (Quadrilateral Security Dialogue) which is strategic security forum between the US, India, Japan, and Australia highlighting the cooperation between these countries. This security alliance could longer term provide unique access for Indian companies in those economies.

Risks

The biggest risks on exposure to India are a change in the political system or an escalation of social unrest which could increase the equity risk premium causing equity valuations to decline. The banking system has also had some trouble in the past couple of years and further stress could negatively impact equity returns and economic growth. A stronger USD and higher US interest rates have also historically been tightening of financial conditions in emerging markets including India, so the rising US interest rates recently observed should be watched carefully. Indian equities are currently valued at 23.4x on 12-month forward earnings which among the highest in the world, but also reflect the enormous growth potential, but it means that Indian equities are more sensitive to changes in the equity risk premium. Finally, India has historically experienced high inflation and if the central bank in the future is not successful in controlling inflationary pressures then it could eat into equity returns over the long run.