According to UBS, more than 50 FIIs have expressed their positive outlook on India, resulting in equity flows recovering to $9.5 billion since March 2023. This rebound comes after a $4 billion outflow from India in the previous three months, amid China’s reopening and negative news regarding certain Indian corporate groups.
“India’s sustained economic momentum despite the fading reopening tailwinds was a bit of a surprise. However, most FIIs agreed that on-the ground recovery remains uneven whether looked at in terms of the rural-urban dichotomy, manufacturing versus services growth or affluent versus lower income household demand,” UBS said in a report.
Global investors have also largely priced in Prime Minister Modi winning the upcoming parliamentary elections in April/May 2024, while the outcome of state elections in the December 2023 quarter is expected to have limited impact, the bank said.
Despite underperforming emerging markets by 4.6% this year, India is still trading at a premium of around 62% on a 12-month forward price-to-earnings (PE) basis, UBS said.
UBS’ India strategist Sunil Tirumalai said this optimism is driven by a perception of better economic, political, and geopolitical outlooks, as well as strong domestic flows. However, there is an expectation of a slowdown in household flows owing to higher bank rates. The strategist also remains cautious on India compared to EMs due to weak growth and return on equity expectations.UBS maintained a base case view that India’s economy may grow by 6.2% year-on-year in this fiscal year that started Apr 1, compared with 7.2% in FY23.UBS India Composite Economic Indicators vs real GDP growth
Source: CEIC, Haver, UBS estimates
The UBS India Composite Economic Indicators suggest economic activity held up in April. On a seasonally adjusted sequential basis, the indicator rose 2% MoM in April (versus 1.5%/1.1% MoM in March/February). The available high frequency indicators for May suggest economic momentum was sustained.
The potential benefits of India’s “China+1” strategy were widely discussed during UBS’s roadshow.
“We think much of this potential gain in market share would be dependent on India’s ability to undertake structural reforms. The broad view was that India could be one of the few EMs where growth of more than 6% could be sustained over the medium term,” the foreign bank said.
CPI inflation—headline vs core
CPI inflation moderated to 4.25% in May, led by a favourable base effect and lower food prices. UBS expects headline CPI inflation to remain well below 5% YoY in June before rising in the September 2023 quarter. The foreign bank also expects CPI inflation to average 5.1% for the whole of FY24 versus 6.7%in FY23.
Key factors influencing India’s economic outlook include a easing inflation pressure, which dropped to a 25-month low of 4.3% in. While falling global commodity prices, particularly oil, was a big relief, UBS said policymakers may intervene to contain price pressure, such as fuel price cuts and releasing stocks of rice and wheat, given the threats of El Niño.
India’s current account balance vs sustainable levels
Source: CEIC, UBS estimates
UBS forecasts India’s FY24 current account deficit to narrow to well within the estimated sustainable threshold for India’s CAD (between 2.1-2.3% of GDP).
UBS expects India’s current account deficit to narrow to 1.5% of GDP in FY24 (from 2.0% in FY23E), supported by lower energy prices and resilient services exports.
General government fiscal deficit
Source: Gov’t budget documents, RBI, UBS estimates
Despite the government’s stretched balance sheet, policymakers remain committed to reducing the consolidated fiscal deficit to below 7.5% of GDP by FY26. Higher-than-expected RBI dividends and robust GST collection could provide the government room for increasing spending in a pre-election year, it said.
UBS maintained its view that the Reserve Bank of India (RBI) will keep rates unchanged in the coming months before starting a gradual easing cycle, potentially from the March 2024 quarter. On the currency front, the RBI has limited significant appreciation of the Indian Rupee (INR) to rebuild its foreign exchange reserves as a precaution against global spillover. However, it is anticipated that the RBI might allow some rupee gains later in the year as its reserves provide a sense of security. The UBS EM strategy team expects the rupee to trade in the range of 81-83 against the dollar, with a year-end forecast of 79.