Over the past twelve months, the Indian stock market was one of the best-performing in the world, with the MSCI India ETF (INDA) returning about 40%. Meanwhile, Indian real GDP growth should rise to 8% or higher this year, surpassing that of China. My experience during my recent business trip to India, as well as my firm's analyses, suggest India’s resurgence is based on three important pillars:
Confidence: A surge in confidence among both investors and the business community due to the promise and implementation of the Indian government’s business-friendly reforms. The Bharatiya Janata Party (BJP), led by Prime Minister Narendra Modi, has a strong mandate to implement such reforms with the BJP forming the largest majority government in 30 years after last year’s national elections;
Modernization: A modernizing of the Indian central’s monetary policy decision framework. The Governor of the Reserve Bank of India (RBI), Raghuram Rajan installed an “inflation targeting” monetary policy in January 2014, replacing the old, incoherent framework of targeting many different, and often incompatible criteria. The RBI for the first time set an inflation target at 4%, with a 2% band on either side. This has strengthened India’s credibility among foreign investors;
Oil Prices: The price decline in one of India’s largest imports: crude oil. According to the U.S. Energy Information Administration (EIA), India imports 3.7 million barrels/day of crude oil. The $50 price in crude oil prices since last October means India is saving about $67 billion annually on its oil import bill. This results in an immediate boost to India’s GDP of 3.4%.
I believe that India’s latest annual budget (which covers the fiscal year from April 1, 2015 to March 31, 2016) will provide a further tailwind for both Indian stock prices and Indian economic growth. I am particularly optimistic because of the following three policies announced within and along with the budget.
1. The administration’s new fiscal deficit target of 3.9%, versus consensus of 3.5%-3.7%
The Modi administration demonstrated its courage and commitment to higher economic growth by targeting an additional $11.3 billion in infrastructure investments, cutting the corporate tax rate from 30% to 25% over the next four years, and building 60 million homes by 2022 to ease housing affordability for the average Indian by 2022. These types of additional spending will accelerate long-term economic growth and ultimately raise the standards of living for all Indians. Moreover, with Indian inflation near its ten-year lows and with Indian’s foreign currency reserves at $334 billion—a record high—there is no reason why the Indian government should not be spending or investing more in an effort to lift millions of Indians out of poverty. Since the new fiscal target announcement, both Indian government bonds and the Indian rupee-U.S. dollar exchange rate have held steady. This means investors are happy with the higher-than-expected 2015-2016 fiscal deficit target.
2. The administration formalizes the Reserve Bank of India’s inflation-targeting policy
While Governor Rajan had already committed the RBI to an inflation-targeting policy in January 2014, this was done without the Indian government’s explicit support. Along with the announcement of the annual budget, the government has committed to formally amend the RBI act to reflect the central bank’s new inflation-targeting policy. The new agreement calls for both the central bank and the Indian government to commit to an inflation target of 4%, with a 2% band on either side, for the fiscal year ending March 31, 2017. This new commitment elevates the RBI to a higher level of credibility and sophistication consistent with that of the world’s major central banks. Essentially, India just experienced the biggest overhaul of its monetary policy framework since the “big bang” reforms of 1991 when India first opened up its economy to foreign investors.
3. Commitment to implementing a national goods and services tax (GST) by April 2016
Critics argued the lack of a precise road map for implementing the national GST in the Indian budget was disappointing. I believe, however, that this implementation remains on track. To recap, India currently does not have a common market; freight that crosses county or state borders are taxed multiple times by local governments, resulting in a very fragmented logistics system and multi-hour delays at border checkpoints. Perishables often spoil, while logistics companies are set up with tax avoidance in mind. The implementation of a national GST will consolidate over a dozen types of state taxes into one single national GST, reducing logistical costs and providing a 2% boost to GDP growth. I believe the lack of a precise road map in the budget is not a big deal. The bill for a constitutional amendment for a national GST has already been placed before the Indian Parliament last December. The key now is to line up enough stakeholders to get Parliament’s approval and subsequently, the legislatures of more than half of India’s 29 states. On the operational side, the entity to manage the new GST network to collect and distribute the GST proceeds is already being set up. I believe the implementation of a national GST is only a matter of time.
The momentum behind India’s three pillars of growth is on track to further boost Indian stock prices and economic growth for years to come. I believe real Indian GDP growth could easily sustain 9% or higher in the next decade, and for Indian stocks to return 15%-20% this year.
Disclosure: Neither I nor does my firm, CB Capital Partners hold any shares in INDA.
