India through Sensex

And why not? The new big picture of the Indian economy is strong and fast growing. It is not only a productivity-led growth but is also based on structural changes. It’s like speeding on a newly constructed national highway at over 120 km per hour. At that speed, you don’t look at the rear view mirror to see what you’ve left behind, it’s dangerous; you only look ahead. The companies underlying the Sensex are doing precisely that. They are simultaneously reflecting and building on the India growth story, paving the way forward for other companies to follow, driving and profiting from new opportunities that have come their way as a sleeping giant gets unshackled.

Along with the unshackling of the Indian economy, with controls falling by the wayside one by one, the other change of gears is an acceleration towards an international integration. During the past four years, the Indian economy has become far more globalised than ever before. This increase has been a two-way exposure. Not only is the country attracting business and capital through contracts, joint ventures and foreign direct investment in sectors from infrastructure to technology, Indian companies are going out and buying companies abroad.

In the markets the number and quality of participants have increased — foreign institutional investors, domestic institutions, mutual funds, insurance companies, foreign pension funds and, of course, small investors/speculators. Overall, it has deepened, liquidity has amplified and India is a $1.4 trillion stock market today, up 40 per cent in less than a year. This market is serving and profiting largely from a rebuilding of India’s infrastructure and the labour price arbitrage in the technology and outsourcing space. As a result, the weightage of political instability in being able to influence the market has fallen and hard numbers seem to have taken charge.

The hard numbers stand strong on macroeconomic performance as much as on firm level execution. The India story stands on four legs. One, it is the fastest growing democracy in the world. Two, it has delivered the highest returns worldwide. Three, opportunities and their execution moving ahead at a furious pace. And four, a growing domestic consumption and investment. Besides, the multipliers of investment in infrastructure and education (which is going to see a five-fold increase in expenditure in the Eleventh Plan), will continue to, well, multiply returns.

But at almost 25 times historic earnings, India is one of the most expensive markets in the world. In fact, India’s valuations are next only to China’s 52 times (which to my mind are not only suspect but unsustainable), Japan’s 35 times (I keep wondering just how this slow growing economy has been able to capture such high valuations consistently), Nasdaq’s 40 times (led largely by higher valued technology and internet businesses). Every other significant market — Hong Kong’s 19 times, UK’s 13 times, Dow Jones’ 17 times, Brazil’s 15 times and so on — is cheaper than India’s.

Many analysts believe that one quick implication of this high valuation would be a crash if global markets contract. But I think that’s where analysts need to study the global numbers a little more closely. Finally, money that’s comfortable with risk will flow to economies, markets and companies that deliver higher growth per unit of risk. On that front, I believe, the India story remains attractive and much of the money will flow here.

And even if there are faster growing countries or markets, they don’t have the scale of operations or the depth that Indian markets provide today. There are 10 companies with a market capitalisation of more than Rs 100,000 crore or $25 billion (Reliance, ONGC, Bharti Airtel, NTPC, DLF, Reliance Communications, Infosys, ICICI Bank, BHEL and TCS); a year ago there were only two. And we are not even factoring in the derivatives market yet. Yes, in absolute terms, the share of Indian market capitalisation in the world’s market capitalisation is just 2.3 per cent, but that’s a big, big jump from the less than 1 per cent market share it had four years ago.

At Sensex 18,000, we are looking at a very different market, a very different future, a very different Sensex itself. Real estate, for instance, which had no presence in the market benchmark but is a major driver of the economy today, is a rising star — Unitech has a weight of 1.8 per cent in Nifty, while leader DLF, which will join the Sensex shortly, should carry an equivalent weight in it. The new Sensex reflects a new India too — finance commands a 20 per cent weight, infrastructure weighs in 19 per cent, while IT and telecom add up to 24 per cent; earlier, it was dominated by commodities and FMCGs.

It is this changed perspective reflecting a future multiplier that analysts have to keep in mind when studying Sensex 18,000 — or should we say 20,000?