Bullish India; mkts discounting 12-20% earnings growth: MS

Sonia: Since you are in Hong Kong currently, tell us what is happening with the Chinese market at this point. The growth figures have been quite abysmal for the quarter gone by but there still seems to be a lot of money getting pumped into the Chinese equity markets. Where do you stand on in India versus China debate?A: We overweight both. We have marginally more recommended exposure on China than on India. China is outperforming India this year though it certainly didn’t on the headline MSCI index where it outperformed India last year. We expect to pick up earnings, going forward as well policy stimulus cycle. Like India, China is also a major commodity importer benefiting from positive terms of trade effect. Valuations are certainly quite high now on the Shanghai market and it is trading within our target price range but we have upgraded our target prices for the Hang Seng index to 30,000 by March 2016 and also for China H-shares. We see those significantly cheaper than their mainland counterparties.Latha: What is the attitude towards emerging markets as a category? Are developed markets likely to see some fraying of interest, some money moving out because lately we have got some soft data from the United States?A: We are not as bearish on emerging markets as we have been for the last two or three years. We see more similar upside to emerging markets (EM) and domestic markets (DM) than before. That said, our preferred areas are still US, Europe and Japan. If dollar is strong then markets in emerging Europe, Middle East, Africa, Latin America will still have significant current account deficit (CAD) and currencies will still be weakening. We do not think that’s the case for Indian rupee where the current account deficit is close to almost zero right now.

Latha: The other big pocket that could worry fund flows in all directions is the Greek problem. Is it likely to lead to some kind of brinkmanship? Would you worry that it could be the next big problem that can disturb fund flows even temporarily?A: We don’t. We think that this is quite a ring fenced issue now. There is no sign of peripheral bond spreads widening in Spain, Portugal like we saw in 2011-12. The reason for that is the European Central Bank (ECB) who have made it clear what it is going to do to preserve the euro zone. We have a fundamentally better adjustment process but those are the peripheral countries. They have much better fiscal position maintained over two or three years ago and have much lower current account deficit. They have been engaging in structural reform. Greece is a rather unusual situation. Sonia: You said you have upgraded the Hang Seng market target to about 30,000. What about the Chinese market and also, do you see money come into China from closer markets like Hong Kong because of the relaxation of stock connect rules? Or do you see money moving out of markets like India and into China towards the later half of the year?A: That’s what happened at the original launch of the Connect Programme last November. There were north bound flows from Hong Kong up to Shanghai and they had A-share market at that point. We were recommending strongly and it was significantly cheaper than it is now. Both north bound flows have ceased for now as the foreign investors and Hong Kong investors probably and correctly perceive that Shanghai market has now reached its fair value. What we actually saw last week was the south bound money flowing from the Mainland through the Connect Programme down into Hong Kong. Hong Kong market is still trading at about 11.5-12 times forward PE and China’s shares in Hong Kong are traded at big discount and valuations to their peers in the A-market. That is the part of programme which is in use right now – money flowing from Mainland China into Hong Kong. In fact, it was about USD 6 billion alone in the last week. Latha: I believe you also said that the Chinese technology stocks are now more expensive than NASDAQ stocks were at the height of 2000?A: I don’t think that was me. Ridham had written about that. But it is certainly true. If you look at the tech heavy part of the Mainland market - that’s trading about 40 times trailing PE – it has certainly moved to quite a high amount. Latha: But nevertheless, you all are positive on the market despite some of these skyrocketing valuations?A: Our recommendations in relation to foreign institutional investors are the MSCI indices. MSCI China and the H-shares in Hong Kong are significantly cheap to the Mainland market and the Shanghai market. That is our recommendation in the offshore China exposure as well as India. Latha: What kind of earnings growth and valuations will you be comfortable with? What are you expecting in the next 12 months?A: We think that the market is discounting around 12-20 percent earnings growth over the next 12-24 months whereas we are expecting earnings growth and compound annual growth rate (CAGR) of about 24 percent. It’s really a very big pick-up in the earnings growth from cyclical depressed levels. It will hopefully be like economic reforms in India and the easier liquidity and fiscal environment that we expect going forward will kick in. We do like cyclical a lot in India and industries. We have been recommending adding exposure to those versus the export-oriented parts of the market.Sonia: What the mood is like in the FII community with respect to India now because about three-four months ago foreign investors still had a lot of patience with it came to the reform agenda in India. Now, it seems like some of that patience is abating. What would your view be?A: Foreign investors, dedicated EM investors moved significantly overweight. There is no real change in that and that’s a good thing and we agree with that. What you have yet to see is a significant amount of buying from truly global investors rather than global EM or Asia, ex-Japan investors. People have a global benchmark and for them India is a relatively small opportunity that is less than 80 bps of the world index. People are much more engaged in markets like Japan and Europe that have positive catalyst and are a much bigger index constituent. It maybe get over in time particularly with increased liquidity in India, more privatisation, more IPOs, increase in market capitalisation that can attract more global money into the Indian equity market.Latha: A niggling worry which some FIIs speak about – there is a minimum alternative tax which could be imposed by the government on retrospective investments and gains made by foreign investors. In the current budget, the finance minister announced that prospectively they are not going to be taxed the minimum alternative tax but it could apply on earnings made so far. Is that a worry? Have you heard this and does it bother you?A: I think it’s really important to have a stable tax environment going forward, not just in relation to stock market investments but corporate investments. In India, generally and historically, there is a tendency to revisit the tax situation including foreign direct investment (FDI) investment. I would hope something like that doesn’t happen.