Morgan Stanley cuts India to underweight, advises investors to reduce holdings – ET

Posted on March 17, 2011 by

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Indian equities remained the least preferred in Asia as macroeconomic fundamentals deteriorate and Morgan Stanley advised investors to use post-Budget stable prices to sell shares as corporate earnings growth may be shaved off due to rising commodity prices.

“The principal factors driving this deterioration in ranking are the currency risk factor and negative earnings revisions,” Morgan Stanley said downgrading India to underweight from equal weight.

“After underperforming significantly earlier this year, India’s performance relative to MSCI EM has stabilised since the Budget, offering a chance to reduce exposure.” Global investors have been pulling out funds from emerging markets this year on prospects of growth recovery in the West and inflation and interest rate worries in emerging markets. In India, foreign funds have sold equities worth $1.5 billion , pulling the benchmark Sensex down 10.49% this year.

Last year, they invested a record $29.36 billion, helping the index return 17.43%. The BoA Merrill Lynch fund manager survey maintains that this is the fourth successive monthly cut in positions by global investors and the lowest level in two years. Emerging markets allocations are down sharply from the over 56% level seen last November. “Following the recent oil price spike, investors fear for corporate profitability and global growth,” the survey said.

A net 52% of Emerging markets investors think their asset class is now undervalued, the highest reading since June 2010. China and Hong Kong are back in favour. India’s poor track record in managing inflation is among the top worries, says Morgan Stanley. “India’s inflation performance remains poor in a pan-emerging markets context, despite recent falls in food prices,” said the Morgan Stanley report.

India’s inflation rate accelerated to 8.3% YoY in February from 8.2% YoY in January 2011. Inflation for December 2010 was also revised upwards to 9.4% YoY from 8.4% YoY reported previously. The central bank targets 7% by the end of the month. Morgan Stanley cut India’s GDP growth forecast for the next fiscal twice this year to 7.7%. Following the recent oil price spike, investors fear for corporate profitability and global.

In its Asia/GEM strategy report released on Wednesday, it maintains that India’s RoE premium to MSCI EM has fallen to just 4% while its trailing P/E premium remains at 40%. Yet, relative return on equity continues to deteriorate and is currently almost at parity with MSCI EM. This compares with an average ROE premium of 42% in the January 2003-June 2007 period. “The central government will likely slow its expenditure growth to single-digit levels in F2012.

Moreover, private consumption growth is likely to moderate in F2012 as higher inflation affects purchasing power, higher deposit rates encourage savings, and the government’s transfer to households slows,” the Morgan strategy report said.

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