India's underperformance compared to EM peers nears end: Jefferies

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India’s underperformance in comparison to other emerging markets (EMs) may end soon, according to a report from the brokerage firm Jefferies.

The brokerage’s equity strategy, in its recent report, said that the market valuations have corrected to the 10-year average and the foreign portfolio investor (FPI) holdings are close to historical lows. The brokerage’s relative performance tracker is also pointing to outperformance ahead.

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Their model portfolio favours domestic companies as they believe that rising private capex and housing cycle will keep the growth resilient. Their key overweight positions are in financials, industrials, consumer staples and property; and are underweight in IT, pharma and energy.

The benchmark index has underperformed the EMs since November 2022 by 18 percentage points (ppt) and that has caused several market variables to normalise.

The analysts traced the index’s relative performance since 2021. “The Nifty (USD terms) demonstrated strong outperformance against its EM peers in 2021 (26ppt OPF versus MSCI EM) and again from January-October 2022 (25ppt). Prospects of China reopening, rising interest rates and high relative valuations caused subsequently the Nifty to underperform the EM index by 18ppt since. The FPIs also turned sellers from Dec'22 and have net sold $4.5 billion since,” the report said.

Over the past 10 years, Indian markets have traded at a 61 percent valuation to EM peers. With the domestic markets outperforming the peers strongly since 2021, the premium it commands had shot up to 101 percent in October 2022. Since then, the premium has been dropping and is now closer to the 10-year average — 62 percent premium over MSCI PM versus the historical 61 percent, and 50 percent over MSCI AxJ versus the historical 53 percent.

The market has always outperformed after such a spell of underperformance, they noted. “Nifty underperformance versus the MSCI from November 2022 was quite sharp and before the end of January 2023, Nifty had UPFed by 20ppt on a 90-day rolling performance basis. Our 10-year rolling analysis of 90-day performance saw three such performance troughs. Following such trough, the Nifty OPFed by 11-20ppt in the subsequent such 90-day period," the repost said.

Despite the Adani crisis causing market concerns, the Nifty, since late January performance trough, has OPFed the EMs already by 5ppt. "Going by past trends, Nifty can still deliver 10ppt outperformance against the EMs in the next two months. We believe that the muted FPI outflows (-$0.6 billion) in February partly suggest that India's fundamentals are still viewed favorably by global investors,” they wrote.

Also read: FPIs sell-off spree continues; withdrew Rs 2,300 crore from equities in February

The analysts added that FPI ownership levels were close to lows and that interactions with various funds indicate that several of them will close their underweight position on the domestic markets soon. “Our analysis of the portfolios of 30 of the largest EM funds (combined AUM of $180 billion) shows that their India positioning is only just off the lows. At 1.4ppt OWT to the benchmark; the EM funds are still below the 2.3ppt OWT average and much below the 4ppt+ peaks. Since Jan 1st we have met/interacted with 50+ foreign investors, and found more than half to be UWT on India. Some large funds have a large UWT. Several investors that we met recently give us an impression that the UWT might get closed soon.”