It's been a fantastic year for Indian equities. So far in 2017, the largest ETF targeting the country, the $5.2 billion iShares MSCI India ETF (INDA) is up 26.2%, besting the returns for broader emerging market funds such as the Vanguard FTSE Emerging Market ETF (VWO), up 18.6%, and the iShares Core MSCI Emerging Markets ETF (IEMG), up 22.6%.
But as good as those gains in India ETFs have been, they're about to get even better in the coming years. That's according to Ridham Desai, Morgan Stanley's head of research for Indian equities. Desai spoke on a recent podcast hosted by WisdomTree, the issuer of the No. 2 India ETF by assets, the $1.7 billion WisdomTree India Earnings Fund (EPI), and he had plenty of bullish things to say about the Indian market and economy.
His most striking claim was that he expects the Indian stock market to triple over the next five years. The catalyst? An acceleration in corporate earnings from what he sees as rock-bottom levels.
Strong Profits, Reasonable Valuations
"The growth cycle is turning," said Desai. "This new growth cycle may cause earnings for the market to compound at around 20%."
That may seem like a lot, but in the previous cycle between 2003 and 2008, corporate earnings compounded at 39%, according to Desai. He doesn't expect growth to be as heady this time around because the global economy is unlikely to be as supportive, but 20% "is still a good number," he pointed out, adding that the ratio of profits to GDP is currently at a very low base.
Meanwhile, valuations for Indian equities are reasonable, in his view. "I tend to look at price-to-book rather than price-to-earnings (P/E), because earnings are depressed, so P/E's are distorted," remarked Desai. "India is trading at 3.2x book, which is bang in line with history, so there's nothing in the valuations to get worried about."
Combine robust profit growth with fair valuations, and you have a recipe for a stock market surge.
"If I'm right about the earnings call, then the stock market can compound at faster than 20%, because the nature of markets is to get optimistic as you get more growth, so multiples go up," argued Desai. If share prices increase at a compounded 24%―just a little faster than his expectation for earnings growth―then the Indian market can triple in the next five years.