India’s future like China’s past: Why Morgan Stanley changed its pecking order in Asia


Global investment banking firm Morgan Stanley, which has downgraded China while upgrading India in its list of emerging markets in Asia, is of the opinion that India’s future looks to a significant extent like China’s past.

Pointing out that India’s GDP per capita is only $2,500 per capita vs $12,700 for China and positive demographic trends, MS analysts say India is arguably at the start of a long wave boom at the same time as China may be ending one.

“Consider that household debt/GDP in India is just 19% vs. 48% for China and that only 2% of Indian households have life insurance. Manufacturing and services PMIs have rallied consistently since the end of Covid restrictions in contrast to the rapid fade seen in China. As well, real estate transaction volumes and construction have broken out to the upside,” the analysts said in a report.

Morgan Stanley’s economics team thinks the trend of GDP growth in China is likely to be around 3.9% to the end of the decade vs. 6.5% for India.

“In this context, it is particularly relevant to note long-run trends in real effective exchange rates for the CNY and INR. The CNY appears to have made a major top in early 2021, and the BIS measure has weakened by 15% in the last 18 months or so. If this is the beginning of a tendency toward a weaker exchange rate – reflecting worsening fundamentals – we would expect profound negative implications for an equity market with almost no export earnings stocks,” said the team of analysts, including Ridham Desai.

For India, they said a long period of stability in the real exchange rate seems set to end with a break to the upside.

From 2003 to 2020, both markets performed remarkably in line with each other – both having a tendency to outperform MSCI EM over the cycle.”From early 2021, however, India has broken out dramatically to the upside, having outperformed China by over 100%. Whilst reversion to the mean is often a powerful force in finance, we think that this represents a structural break in India’s favour that warrants a bias to an OW versus a bias to EW or UW for China with the medium-term driver being significantly higher USD EPS growth and ROE over the cycle for India vs China,” the report said.

Valuations, to some extent, reflect the market’s understanding of this structural change – and overshot somewhat last October in India’s favour, it said while explaining the rationale behind the reshuffle in the order of its preference in Asia ex-Japan EM basket.

Morgan Stanely has upgraded India to overweight for a structural uptrend and has jumped 5 places to the No. 1 position in the Asia ex-Japan EM list.

“Relative trailing P/B relative to benchmark stands at +1.2 S.D. above the five-year average and relative forward P/E is 0.8 S.D. above the five-year average. Earnings revision breadth (three-month moving average) remains negative but has improved from the last publication, while relative ROE to benchmark five-year Z-score stands at +0.8 S.D and trailing net margins are in line, with both metrics improving,” it said.

Desai said there are three anchors to India’s likely multi-year bull market – macro stability, strong growth, and a reliable domestic source of risk capital.

“The concomitant effects are a strong profit cycle, lower return correlation of equities with oil and US growth/Fed cycles, and a lower beta to EM, which set India up for strong equity market performance, albeit relative valuations remain rich,” he said.


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