Morgan Stanley says India stocks are ‘attractive’ relative to other emerging markets

A guard walks past the National Stock Exchange building in Mumbai, India, on February 9, 2018.

Danish Siddiqui | Reuters 

SINGAPORE — Indian stocks have been outperforming other emerging markets for nearly six months and could continue to do so if supportive measures are in place, according to Morgan Stanley.

The outperformance began in April but the market’s short-term performance remains hinged to global factors, the U.S. investment bank said in a Oct. 9 report.

“We have been arguing that for this outperformance to be sustained, India needs to continue to deliver policy that lifts India’s potential growth in the eyes of market participants,” Ridham Desai, equity strategist, and Sheela Rathi, equity analyst, said in the report.

The MSCI India Index, which focuses on both large and mid-cap segments, is up 39.36% between mid-April till Oct. 14 versus a 26.7% increase in the MSCI Emerging Markets Index, according to data from Refinitiv Eikon. Meanwhile, the more narrowly focused Indian equity benchmarks, Sensex and Nifty 50, are up 34.28% and 34.12% respectively.

Three factors have helped India’s strong performance: an improving policy environment, corporate response to the pandemic and “an attractive starting point of valuations,” the bank said.

Morgan Stanley said differentiated policies such as a large corporate tax cut, recent changes to the labor law and agricultural marketing as well as manufacturing incentives helped India’s performance.

Companies have also responded to the pandemic with measures that put them in a better position ahead of a recovery. “Indian companies have used the pandemic dislocations to prepare for the next growth cycle by cutting costs (earnings coming ahead of expectations), raising capital to either boost growth or mitigate tail risks and undertaking mergers, acquisitions and restructuring,” the analysts said.

Finally, valuations are looking attractive relative to other emerging markets, as well as relative to India’s own macro factors such as GDP and money supply. However, relative to bond yields, Indian equities appear fully valued and may not be as attractive.

India traders at the Motilal Oswal Financial Services Ltd. office in Mumbai, India.

Vivek Prakash | Bloomberg | Getty Images

Sector picks

Morgan Stanley said the broad market looks very attractive and it likes “mid-caps” companies.

“We are in a stock picker’s market, and thus we recommend narrowing sector positions. We believe that
the broad market will likely outperform, consistent with our theme that this is a stock pickers’ market,” the analysts said. “We prefer cyclicals over defensives. The themes we like include agriculture, manufacturing and early cycle rate plays.” Cyclical stocks are those that track the economy’s strength and follow broader business cycles, while defensive stocks are those that provide consistent dividends no matter what state the overall market is in.

Here are the bank’s investment calls for various sectors.

‘Overweight’ rating:

  • Consumer discretionary;
  • Industrials; and
  • Energy.

With attractive valuations, the analysts said consumer discretionary could be the first sector out of the downturn, helped by potential fiscal and monetary stimulus. Consumer discretionary companies usually produce non-essential or luxury goods.

To be clear, economists have said the government has little room for fiscal stimulus that can spur a recovery by restoring consumer demand without worsening the fiscal deficit. Inflation pressures are also likely to limit the Reserve bank of India’s short-term options

As for why its bullish on energy stocks, Morgan Stanley says the sector “bears characteristics of a bull market leader by being unloved, under-owned and under-valued.”

Some of the individual names that Morgan Stanley says it’s overweight on include: Bharti Airtel, Bajaj Auto, Bajaj Finance, Maruti Suzuki India, Reliance Industries, HDFC Bank and Apollo Hospitals.

‘Underweight’ rating:

  • Technology; and
  • Consumer staples.

Technology stocks are “least exposed to a recovery in India growth” and valuations are already relatively rich, the investment back said.

Morgan Stanley predicted that financials could lose its leadership status in any new bull market given an over-owned position and that non-banks face significant growth slowdown. “We think a stimulus package is essential, but the sector’s performance could narrow to a handful of strong banks. We are sellers of a rally in financials,” the bank said in the note that was published prior to India’s fiscal measures announced Monday.

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