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India Investing: From Great to Merely Good


A strong rupee is putting a damper on exports, but domestic spending should give stocks a lift

Investors who barely thought of India five years ago piled into Indian stocks in 2007. The Sensex, the Bombay Stock Exchange's index of 30 top stocks, rose almost 40% over the year. The India story—China-class powerhouse, 9% GDP growth, expanding consumer class—was an easy sell for brokers.

But is 2008 the year of the great Indian cooldown? The strong rupee is pinching exports, and valuations have gotten quite high by Indian standards: The price-earnings ratio for the Sensex is about 26, compared with an historic average of 15. Throw in the risk of a U.S. slowdown, rising inflation, and political gridlock in Delhi, and you have a case for getting out of Indian stocks.

Plenty of market pros, however, think Indian equities could still have a good, though not great, year. The Sensex could rise 15% in 2008, says Bharat Iyer, research head at JPMorgan Chase (JPM). Overall corporate earnings should be up 18%—not the same blistering rate as before but pretty good. Says Ridham Desai, managing director at Morgan Stanley (MS): "India is one of the few emerging market countries experiencing upward earnings revisions, which should provide comfort to investors."

If India bulls through, it will be because of its domestic economy, not red-hot exports. Indians are borrowing to buy homes in record numbers, purchasing more cars than ever, making billions of cell-phone calls, and calling for the government to fix the country's creaky infrastructure. Consumer spending should keep growing at a 6% rate, and auto loans should balloon by 50% in two years, to $17 billion annually.

This domestic focus provides a guidepost for stockpicking. ICICI Bank (IBN), with more than 500 branches, is a powerful retail franchise that is spending heavily on information technology to boost service and improve efficiency. Its estimated p-e ratio is pricey at 30, but earnings look set to advance more than 30%. Cellular operator Bharti Airtel boasts an operating margin of 22%, while its estimated p-e ratio is a more approachable 26. Sobha Developers is building luxury developments in Bangalore and fast-growing cities like Pune. Morgan Stanley thinks it's a good value.

India's continued transition to a market economy offers some opportunities as well. The government has been steadily shedding its holdings in big, old-line companies. Far from diluting these shares, the exit of the government as a shareholder has in the past sent stocks in privatized companies soaring. This game should continue: The government is expected to decrease its stakes in both $4.4 billion power-equipment maker Bharat Heavy Electricals and $8.7 billion Steel Authority of India.

Even tech stocks such as Infosys and TCS, which were hammered in 2007 as the rupee affected exports, could win back investors in 2008. Their 30% earnings growth is still high, and they are diversifying into other markets to reduce their reliance on the U.S. Best of all, their p-e ratios of 20 represent a discount to the market. The tech stocks, like other Indian equities, won't deliver the thrilling ride of 2007. But much of the India story should stay solid.

Back to Investment Outlook 2008 Table of Contents

Lakshman covers India business for BusinessWeek .

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