India’s best companies are conservative because their owners’ money is often in the business and they hate to misuse it, yet at the same time they are “absolutely respectful” of outside investors, while the worst are more careless with their investors’ capital, Lim argues.
The problem is that the good companies can become very expensive and Indian equities in aggregate remain some of the most highly valued in emerging markets.
However, Indian equities have been a notable laggard in the recent emerging market rally and for Lim, this has presented an opportunity to top up on favoured holdings in the $1.7bn Aberdeen Standard Sicav I Indian Equity Fund.
Investors are focused on short-term noise, he believes, such as a potential slowdown in global growth and the outcome of the US-China trade talks, even though the Federal Reserve has signalled a pause in rate hikes.
Indian equities have struggled because of the approaching general election, as investors worry that Prime Minister Modi’s power is waning and with it, his ability to enact reform.
None of these issues, says Lim, should detract from the prospects for Indian companies. Although Prime Minister Modi’s popularity may have waned since peak levels at the last election, he remains a powerful force: “The country is well insulated from the ill-effects of global trade tensions.
“Structurally, its large, domestic consumption-based economy is in a good position to withstand external shocks. Growth remains compelling, underpinned by a young population and an expanding middle class.”
“Local macroeconomic issues appear to be abating, thanks to the stability in oil prices and a pause in US rate hikes, as inflation remains benign. In addition, tax incentives stated in the interim budget and the Reserve Bank of India’s rate cut should boost liquidity and demand.
“At the same time, government spending and policies, in a pre-election year, should support rural consumption.”
Compound growth over long-term
There are over 7,000 listed companies in India and most do not make Lim’s short-list. Many are excluded for reasons of size alone. He follows the broader Aberdeen process, which leads him to high quality companies that can deliver compound growth over the long-term.
The 14-strong team that works on the Indian Equity Fund looks for companies with pricing power and robust balance sheets.
“Stock selection is what sets us apart. We do our own company research and if a stock fails our screens we won’t own it. Unlike many fund managers, we’re long term in our focus. That means we go back and visit companies again and again.
“The benefit of this is to isolate only the well managed companies that have attractive long-term prospects and which represent good value. It’s important for us to focus on price as well as quality – there’s no point in overpaying however attractive a company might be.”
Today, many of Lim’s preferred companies are those likely to profit from India’s long-term consumption trends. These are companies with reputable brands and strong distribution networks that cater to an expanding middle class. These include Hindustan Unilever, ITC and Godrej Consumer Products.
Long term demand for pharmaceuticals
The team also likes the healthcare sector. Lim says it has faced some volatility over regulatory concerns in the US, but the companies they hold have good research and development capabilities and should benefit from long-term demand for pharmaceuticals in specific areas.
Materials are the other major overweight position in the fund, largely due to holdings in Grasim Industries, UltraTech Cement and Shree Cement. Government estimates show India will need about $4.5 trillion in the next 25 years for infrastructure development. As such, companies that support that development are likely to do well.
At the opposite end, Lim has a significant underweight position in energy. The benchmark has some large petrochemical and energy conglomerates among its largest weights, so the fund generally has a lower weighting.
As a sector, energy has done well, but the team is concerned about the weak governance standards among the companies, including its aggressive capital spending and weak free cash flow generation and returns.
He is also light in the consumer discretionary area, largely because he isn’t invested in the car companies where competition is intense and capex requirements high.
The portfolio is concentrated, at just over 30 stocks. Lim says he knows them all “intimately”, having analysed the region for over 15 years.
The fund has experienced only around half of the fall in the wider FO – India sector over the past 12 months, falling 4.4% versus 8.2%, which has left it top quartile.
Over the longer-term, the fund is up 102% against 89% for the wider sector over five years. The fund has tended to defend capital in difficult markets but lag markets that are rising sharply.
This fund sits as the grandaddy of the sector, a choice as a solid core holding for exposure to India’s most stable and reliable companies. It is an option for those who may be worried about the market’s current volatility or the potential for disruptive elections later this year.
