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The policy makers in India seem to have woken up finally after a long slumber. More reform measures have been announced in the country in the last 10 days than in the last ten years or so.
Among the reforms announced:
· Diesel subsidies cut
· Stake sales in four public sector companies
· Foreign direct investment (FDI) guidelines relaxed
· Tax on foreign borrowings by Indian corporates reduced
Major rating agencies, country’s central bank and the multilateral institutions had been warning the government to take up appropriate measures to boost investors’ confidence and encourage capital inflows.
Earlier this year, S&P and Fitch had downgraded the outlook on the country and warned of a sovereign credit downgrade. If downgraded, India would be the first country in the BRICs block to lose its investment grade rating. (Read: India ETFs: Trouble On The Horizon?)
Government action on policy reforms came in face of significant political risks. The cut in diesel subsidies—an important step towards fiscal consolidation—was met with protests and withdrawal of the support to the government by a key political ally. (Read: 3 ETFs To Prepare For The Fiscal Cliff)
The same coalition partner—Trinamool Party—had opposed the government effort to open the retail sector last year and had succeeded in blocking the move. The party accuses the government of pursuing "an anti-people's agenda’. New FDI rules allow up to 51% foreign investment in mass retail outlets. (Read: Three Biggest Mistakes of ETF Investing)
India’s fiscal deficit had widened to 5.9% of GDP in the fiscal year ended March 31, substantially higher than the government's target of 4.6%, mainly due to massive fuel and fertilizer subsidies. The government targets to reduce the fiscal deficit to 5.1% of GDP in the current fiscal year which began April 1.
The economy grew at 5.5% during the first quarter of current fiscal year (April-June), slightly up from 5.3% in the previous quarter, but much slower than the 8.5% average of the preceding eight years. The IMF expects India’s economy to grow at 6.1% in 2012, while the World Bank’s expectation stands at 6.9%. The central bank lowered the India's growth forecast for the year to 6.5% from 7.5% in July. (Read: Forget the BRICs, Focus on the PICKs)
As a result of the optimism generated by the reforms, foreign investors poured more than $1 billion in the country’s stock markets since the announcement, sending the stocks to their highest levels in more than one year. The currency also recovered to its multi-month high.
Many market participants believe that the reforms were mainly aimed at avoiding the downgrade and the Indian government’s commitment to implement the reforms still needs to be seen. Further we cannot expect the reforms to result in accelerating the economic growth or bringing down the fiscal deficit anytime soon.
Nevertheless the reforms are a welcome change after many years of policy paralysis in the country. Government’s willingness to take political risks even in the face of looming elections will go a long way in improving the investors’ confidence in the country even though the actual impact of the reforms will be seen only after some time.
The central bank left the rates unchanged in its recent meeting while reducing the cash reserve ratio for banks by 25 bps. While many had expected a rate cut after the reforms announcement, the central bank said that its decision was influenced by still-high inflation rate (~7.5%) and other imbalances in the economy.
For investors seeking broad exposure to Indian equities, following ETF choices are available:
EPI is the most popular ETF in this space, with about $1.1 billion in AUM. It tracks the Wisdom TreeIndiaEarning Index, which weights the Indian companies based on their earnings, adjusted for a factor that takes into account the shares available to the foreign investors. It charges the investors 83 basis points for annual expenses.
In terms of sector weightings, the fund has highest exposure to financials (28%), followed by energy (23%), information technology (14%) and materials (13%).Top 10 holdings account for about 40% of total holdings. The fund has returned 20.8% year-to-date.
PIN which tracks the Indus India Index, has assigned highest weighting to the Energy sector (26%), followed by financials (18%) and information technology (17%).
The expense ratio of the ETF is 79 basis points. Top ten holdings constitute 53.7% of the holdings. The fund has returned 15.0% year-to-date.
INDYfollows S&P CNX Nifty Index, a free float market cap weighted index of 50 largest and most liquid Indian companies. It charges the investors 92 basis points for annual expenses.
Top 10 companies in the fund account for 56.47% of the fund. Sector weighting are: financials (27), Information Technology (13%) and power (13%). The fund has returned 23.1% year-to-date.
iShares MSCI India Index Fund (INDA)
This is the newestin the space, launched in February this year. The fund follows MSCI India Index, which is float adjusted market cap weighted index. Holdings are not very different from the older three discussed above but with the expense ratio at 0.65%, this is the cheapest option now.
Financials enjoy highest weighting (29%), followed by information technology (16%) and energy (13%). Top ten companies account for more than half of the total holdings.
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