EM flows uncertain, but India has an edge

India’s valuation is still at a premium, but that should not be looked at in isolation. 
India’s valuation is still at a premium, but that should not be looked at in isolation. 


  • For EM outflows to turn into inflows, either the US Fed stops raising rates or EM central banks go for steeper rate hikes.

Emerging market (EM) economies have borne the brunt of rising global economic uncertainty led by the spate of interest rate hikes by central banks worldwide. A natural fallout of a strong US dollar is that foreign portfolio investors (FPIs) ditch EM equities for other options. A breather is that FPI outflows from India and other EM stock markets seen in September have moderated so far in October, showed an analysis by ICICI Securities Ltd.

However, the road ahead may not be as smooth. The US Federal Reserve is likely to maintain its hawkish monetary policy stance to tame the inflation beast. The US central bank is also in a quantitative tightening mode.

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“We expect foreign institutional investor (FII) flows towards EM equities to remain volatile in the near-term given the expectations that the US Fed would continue to hike interest rates in December," said Hitesh Jain, lead analyst at Yes Securities Ltd.

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The Bloomberg Emerging Markets Capital Flow Proxy Index shows that capital flows in EMs is still below the historical average, he said.

With the strengthening of the US dollar, EM currencies including the Indian rupee have seen a steep depreciation lately. Bleeding EM currencies make EM assets less lucrative investment options to foreigners. “Amid the fears of a global recession, holding on the US dollar seems to be an attractive bet over equities and bonds given the continued strength in the greenback," Jain said.

India is said to be better placed than Asian peers as it is projected to see a relatively higher economic growth. That, along with an improving corporate earnings outlook, should stem a steep FII outflow from India.

“India’s valuation is still at a premium, but that should not be looked at in isolation and is supported by better growth prospects and improving return on equity,“ said Nishit Master, portfolio manager at Axis Securities Ltd.

At a one-year forward price-to-earnings multiple, the MSCI India Index is trading at 19.82x, showed Bloomberg data. This is higher than the multiples of MSCI Asia Ex-Japan Index and MSCI Emerging Markets Index.

Meanwhile, for EM outflows to turn into inflows, either the US Fed has to stop raising rates or EM central banks, which are lagging the Fed, have to opt for steeper rate increases. “We don’t see any of these playing out in the near-term," said Master. Against this backdrop, Master cautions that the short-term bias of EM FPI flows is towards the downside.

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