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The Indian stock market has been badly hit by the twin attacks of Donald Trump’s victory and Indian prime minister Narendra Modi’s currency demonetization on November 8. The abolishment of high denomination currency notes – 500 and 1,000 rupees – immediately eliminated 80% of the currency in circulation. The move was aimed at reducing corruption in the country, thwart counterfeiters, and combat tax evasion.
Short-Term Pain
The cash ban dealt a major blow to consumer spending and the stock market, leading to a liquidity crunch. It resulted in the worst quarter of foreign institutional investors (FIIs) outflow since the 2008 crisis with nearly 30,000 crores of rupees being pulled out from the country in the October to December quarter, as per Dalal Street. Notably, India was the second worst performing market in the Asia-Pacific region as the BSE Sensex lost 3.8% since November 8 (read: Are India ETFs in for a Rough 2017 Thanks to Modi?).
Economic activity has dropped as production halted in various industries. In fact, the manufacturing sector contracted for the first time in December with Nikkei Markit India Manufacturing Purchasing Managers' Index (PMI) dropping to below 50 while services activity plunged for the second consecutive month, with the average composite PMI activity index for the October to December quarter falling to the lowest level since early 2014.
Notably, economic activity in segments like real estate, unsecured lending, real estate construction services and building materials where cash-based transactions are the norm were the hardest hit. Additionally, demonetization may lead to increased deflationary pressures and increased unemployment, the two biggest hurdles for the Indian economy. This can easily be depicted by the latest inflation data which reveals that consumer prices rose 3.63% annually in November, marking the slowest increase in two years.
As a result, several researchers and economists have lowered their near-term GDP growth projections, especially for fiscal year 2016–17 in the wake of the demonetization move.
Long-Term Gain
While the cash ban is expected to be a drag on the Indian economy in the near term (say for at least the two quarters), the long-term outlook looks compelling. This is especially true, as the move would help the economy to grow faster in the next fiscal year, put an end to the country's shadow economy, increase tax revenues, and promote the use of bank accounts and digital transactions.
The economy will likely expand 7.5% as per the Deutsche Bank and 8.6% according to Goldman in the financial year through March 2018. As per the Economic and Social Survey for Asia and the Pacific 2016 report of the United Nations, the Indian economy is set to continue growing quicker than China with a growth rate of 7.6% in both fiscal years 2016–17 and 2017–18. If this wasn’t enough, Narendra Modi expects the Indian economy to grow five folds by 2040 buoyed by strong progress in manufacturing, transport and civil aviation (see: all the emerging Asia Pacific ETFs here).
Investors should note that India has shown tremendous resilience in times of global uncertainty. A slew of economic reforms, improving current account deficit, a rebound in agriculture, a recovery in private investment, introduction of the Goods and Services Tax (GST), and a fall in interest rates will fuel economic growth and drive stocks higher. Moreover, Moody's Investors Service expects Indian companies to likely see the strongest profit growth over 18 months on the back of sustained economic expansion, capacity additions, and higher commodity prices.
Given the long-term positive trends, investors could easily tap on the beaten down prices in the form of ETFs. As such, we have highlighted four ETFs that are relatively undervalued and have a solid Zacks ETF Rank of 2 or ‘Buy’ rating, suggesting that these will outperform in 2017.
This product tracks the WisdomTree India Earnings Index, holding 250 profitable companies using an earnings-weighted methodology. Reliance Industries and Infosys occupy the top two positions with a combined 17.8% of assets while other firms hold no more than 5.5% share. The fund is heavy on financials with 22.7% share, while energy and information technology also get double-digit allocation in the basket. The fund has amassed nearly $1.3 billion and trades in volume of more than 3.5 million shares a day. Expense ratio came in at 0.84%. The fund has lost about 3.5% since demonetization (read: 7 ETF Areas to Hog the Limelight in 2017).
Columbia India Small Cap ETF
This fund targets the small cap segment and tracks the Indxx India Small Cap Index. In total, it holds 74 securities in its basket with none making up for more than 5.64% of assets. From a sector look, industrials dominate the fund’s return at 28.2%, closely followed by financials (23%) and consumer discretionary (17.7%). The fund has so far amassed $17.7 million in its asset base while charging 86 bps in annual fees. Volume is light, exchanging around 4,000 shares in hand a day. The ETF shed nearly 12% in the same time period.
This ETF follows the MSCI India Total Return Index and charges 65 bps in fees per year from investors. Holding 77 stocks in its basket, the fund is highly concentrated on the top two firms – Housing Development Finance and Infosys – that make up for more than 8% share each. Other firms hold no more than 6.3% share. However, the product is nicely spread across various sectors with financials, technology, consumer discretionary and energy taking double-digit allocation each. INDA is the largest and popular ETF in this space with AUM of over $3.7 billion and average trading volume of more than 2.4 million shares a day. The fund is down 5.1% in the same timeframe (read: What Lies Ahead for India ETFs?).
This ETF provides exposure to the largest 54 Indian stocks by tracking the Nifty 50 Index. It is pretty well spread out across components with none of the securities holding more than 6.9% of assets. With respect to sector holdings, financials takes the top spot at 31%, closely followed by information technology (15%), consumer discretionary (12%) and energy (10%). The product has managed assets worth $704 million and trades in good volume of nearly 140,000 million shares a day. It is the high cost choice in the space, charging 94 bps in annual fees. The product has shed 5.6% since the cash ban.
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Are India ETFs Feeling the Pinch of the Cash Ban?
The Indian stock market has been badly hit by the twin attacks of Donald Trump’s victory and Indian prime minister Narendra Modi’s currency demonetization on November 8. The abolishment of high denomination currency notes – 500 and 1,000 rupees – immediately eliminated 80% of the currency in circulation. The move was aimed at reducing corruption in the country, thwart counterfeiters, and combat tax evasion.
Short-Term Pain
The cash ban dealt a major blow to consumer spending and the stock market, leading to a liquidity crunch. It resulted in the worst quarter of foreign institutional investors (FIIs) outflow since the 2008 crisis with nearly 30,000 crores of rupees being pulled out from the country in the October to December quarter, as per Dalal Street. Notably, India was the second worst performing market in the Asia-Pacific region as the BSE Sensex lost 3.8% since November 8 (read: Are India ETFs in for a Rough 2017 Thanks to Modi?).
Economic activity has dropped as production halted in various industries. In fact, the manufacturing sector contracted for the first time in December with Nikkei Markit India Manufacturing Purchasing Managers' Index (PMI) dropping to below 50 while services activity plunged for the second consecutive month, with the average composite PMI activity index for the October to December quarter falling to the lowest level since early 2014.
Notably, economic activity in segments like real estate, unsecured lending, real estate construction services and building materials where cash-based transactions are the norm were the hardest hit. Additionally, demonetization may lead to increased deflationary pressures and increased unemployment, the two biggest hurdles for the Indian economy. This can easily be depicted by the latest inflation data which reveals that consumer prices rose 3.63% annually in November, marking the slowest increase in two years.
As a result, several researchers and economists have lowered their near-term GDP growth projections, especially for fiscal year 2016–17 in the wake of the demonetization move.
Long-Term Gain
While the cash ban is expected to be a drag on the Indian economy in the near term (say for at least the two quarters), the long-term outlook looks compelling. This is especially true, as the move would help the economy to grow faster in the next fiscal year, put an end to the country's shadow economy, increase tax revenues, and promote the use of bank accounts and digital transactions.
The economy will likely expand 7.5% as per the Deutsche Bank and 8.6% according to Goldman in the financial year through March 2018. As per the Economic and Social Survey for Asia and the Pacific 2016 report of the United Nations, the Indian economy is set to continue growing quicker than China with a growth rate of 7.6% in both fiscal years 2016–17 and 2017–18. If this wasn’t enough, Narendra Modi expects the Indian economy to grow five folds by 2040 buoyed by strong progress in manufacturing, transport and civil aviation (see: all the emerging Asia Pacific ETFs here).
Investors should note that India has shown tremendous resilience in times of global uncertainty. A slew of economic reforms, improving current account deficit, a rebound in agriculture, a recovery in private investment, introduction of the Goods and Services Tax (GST), and a fall in interest rates will fuel economic growth and drive stocks higher. Moreover, Moody's Investors Service expects Indian companies to likely see the strongest profit growth over 18 months on the back of sustained economic expansion, capacity additions, and higher commodity prices.
Given the long-term positive trends, investors could easily tap on the beaten down prices in the form of ETFs. As such, we have highlighted four ETFs that are relatively undervalued and have a solid Zacks ETF Rank of 2 or ‘Buy’ rating, suggesting that these will outperform in 2017.
WisdomTree India Earnings Fund (EPI - Free Report)
This product tracks the WisdomTree India Earnings Index, holding 250 profitable companies using an earnings-weighted methodology. Reliance Industries and Infosys occupy the top two positions with a combined 17.8% of assets while other firms hold no more than 5.5% share. The fund is heavy on financials with 22.7% share, while energy and information technology also get double-digit allocation in the basket. The fund has amassed nearly $1.3 billion and trades in volume of more than 3.5 million shares a day. Expense ratio came in at 0.84%. The fund has lost about 3.5% since demonetization (read: 7 ETF Areas to Hog the Limelight in 2017).
Columbia India Small Cap ETF
This fund targets the small cap segment and tracks the Indxx India Small Cap Index. In total, it holds 74 securities in its basket with none making up for more than 5.64% of assets. From a sector look, industrials dominate the fund’s return at 28.2%, closely followed by financials (23%) and consumer discretionary (17.7%). The fund has so far amassed $17.7 million in its asset base while charging 86 bps in annual fees. Volume is light, exchanging around 4,000 shares in hand a day. The ETF shed nearly 12% in the same time period.
iShares MSCI India ETF (INDA - Free Report)
This ETF follows the MSCI India Total Return Index and charges 65 bps in fees per year from investors. Holding 77 stocks in its basket, the fund is highly concentrated on the top two firms – Housing Development Finance and Infosys – that make up for more than 8% share each. Other firms hold no more than 6.3% share. However, the product is nicely spread across various sectors with financials, technology, consumer discretionary and energy taking double-digit allocation each. INDA is the largest and popular ETF in this space with AUM of over $3.7 billion and average trading volume of more than 2.4 million shares a day. The fund is down 5.1% in the same timeframe (read: What Lies Ahead for India ETFs?).
iShares India 50 ETF (INDY - Free Report)
This ETF provides exposure to the largest 54 Indian stocks by tracking the Nifty 50 Index. It is pretty well spread out across components with none of the securities holding more than 6.9% of assets. With respect to sector holdings, financials takes the top spot at 31%, closely followed by information technology (15%), consumer discretionary (12%) and energy (10%). The product has managed assets worth $704 million and trades in good volume of nearly 140,000 million shares a day. It is the high cost choice in the space, charging 94 bps in annual fees. The product has shed 5.6% since the cash ban.
Want key ETF info delivered straight to your inbox?
Zacks’ free Fund Newsletter will brief you on top news and analysis, as well as top-performing ETFs, each week. Get it free >>