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India ETFs are on a tear this year on economic optimism. Solid GDP data defying demonetization, the win of the pro-growth prime minister’s party in some key states, implementation of goods-and-services tax or GST this July, a weaker greenback and subdued U.S. Treasury bond yields driving foreign inflows benefited India investing (read: 5 Reasons to Buy India ETFs Now).

Billionaire investor Warren Buffett also sees 'incredible' potential in India investing. India’s billion-plus population and the emerging middle class hint at lucrative investment opportunities. But he also said "if you tell me a wonderful company in India that might be available for sale, I'll be there tomorrow" (read: Invest Like Warren Buffett with These ETF Strategies).

After the impressive run this year, as indicated by about 20% returns offered by the large-cap iShares India 50 (INDY - Free Report) and about 40% from Columbia India Small Cap ETF (SCIN - Free Report) , India ETFs are red hot now. So, it is natural for investors to think if India ETFs still have room for growth (read: Are Q1 ETF Toppers Healthy Enough for Further Run in Q2?).

So, what are the chances of Indian stocks scaling higher? Let’s find out.

Key Risks

As per an article published on Bloomberg, about half of the stocks in the S&P BSE 500 Index are pricier than their average five-year price-to-earnings figure. “Highest proportion of stocks [are] trading above their historical valuations in 15 years.”

So, brokerage houses like IIFL see muted returns from India investing, going forward. Head of research Asia at Bank Julius Baer also believes, “mid-cap stocks are extremely expensive in India compared to large caps.”

As per an article published on CNNMoney, excessive red tape is another cause (apart from high valuation) that has probably discouraged Buffett from investing in India. Though such roadblocks are likely to get cleared, it is taking longer than expected, a per the source. 

Can the Rally Outrun Risks?

With some of the tailwinds still in place, investors can play India ETFs in the near term, but with a little more caution. With oil prices sliding below $50 (despite OPEC output cut deal) on higher U.S. drilling, the Indian market has reasons to rejoice. Lower oil prices should bode well for India as the country is a big importer of crude (read: If the Oil Crash Continues, Buy These 5 ETFs to Outperform).

Despite the overvaluation concerns, Julius Baer Research thinks that Indian equities can still experience ascent on the back of inflows from retail investors into domestic mutual funds. IMF now expects the growth rate of India to be 7.2% in the current fiscal and jump to 7.7% in the next.

ETF Picks

So, investors may land up on those with relatively low valuation. Below we highlight a few ETFs with relatively lower valuation (based on P/E of last 36 months).

WisdomTree India Earnings ETF (EPI - Free Report) – Up 23.1% (YTD); P/E – 14.55x

PowerShares India ETF (PIN - Free Report) – Up 19.5% (YTD); P/E –18.48x

Stocks to Pick

We have also chosen two Indian stocks that currently sport a Zacks Rank #2 (Buy), at the time of writing.

Tata Motors Ltd (TTM - Free Report)

Tata Motors is India's leading automotive manufacturer. The stock has a VGM (Value-Growth-Momentum) score of ‘B.’ The company’s Zacks Industry Rank is in the top 38% and sector rank is in the top 25%. The stock has a P/E ratio of 13x, as per finviz.com.

ICICI Bank Ltd. (IBN - Free Report)

ICICI Bank offers a wide range of banking products and services to corporate and retail customers in India. Thisstock has had a solid run on the bourse this year. In early May, the company reported a rise in fourth-quarter fiscal 2017 (ended Mar 31, 2017) earnings, wherein net profit increased about 189% year over year. The Zacks Rank of the industry in which the stock operates is in the top 38%.

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