 "Gold beats equity in most emerging mkts, except India: What should you do?")
Gold has outperformed equity markets in local currency terms across all markets, except for India, where equities have shown stronger returns, said DSP Mutual Fund in it's latest edition of the October 2024 Netra report.
Gold has traditionally been an essential diversification asset due to its superior returns compared to equities. However, India stands as a notable exception. "While gold has provided stability in regions facing economic challenges, India’s stronger currency and robust equity performance have outpaced gold returns, showcasing the resilience of Indian markets," said DSP MF in a note.
With India's unique equity success story, how should investors balance these two key assets in their portfolios to optimize returns in an unpredictable global environment? "Diversifying with gold is essential for emerging market portfolios due to its consistent outperformance compared to equities in most regions. Gold has delivered superior returns in local currencies across emerging markets, driven by economic and political instability, which often weakens currencies and boosts gold prices," said the note.
While India stands out with a more stable currency and strong equity performance, many other emerging markets face chronic challenges that make gold a valuable asset. India is the only exception, at this point, where local stocks are beating gold. But this isn’t the case always.
"Including gold in a portfolio acts as a hedge against volatility, protecting against risks while enhancing overall returns. For investors in emerging markets, gold offers both stability and growth potential in uncertain times," said DSP Mutual Fund.
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India has outperformed S&P 500 Index even during a strong USD phase, diverging significantly from other EMs. "The four-year rolling CAGR of relative performance of India over US vs EM over US favours India and is currently at a differential of 18.2% CAGR, the highest number registered ever," said the report.
A large part of underperformance of Emerging markets can be attributed to the underperformance of China. Over the last few weeks, China has enacted a preliminary stimulus to help put a check on the slowing economic growth. If Chinese equities make a comeback, it could quickly command a large share of its missing foreign investor flows.
"It would be difficult for India to hold on to this outperformance given its 90% premium to Ex India EM basket," the report added.
The report argues that the expectation for increased FII in India as a result of China’s struggles has not materialized. This challenges the idea that India would attract more investment simply because China is facing difficulties.
Liquidity Chasing: The notion that increased investment flows directly lead to high returns is labeled as illogical. DSP MF points out that while institutional inflows (from FIIs and mutual funds) often coincide with market performance, they do not necessarily cause it. Essentially, just because money flows into a market doesn’t mean that it will lead to better returns.
"In fact, when seen from a valuation perspective, $86Bn worth of flows, which are equivalent to nearly 6 years of flows, have come in at the top quartile of
valuations for Indian equities," said the report.
The $86 billion in FII inflows occurring at a time when Indian equities are highly valued (top quartile) suggests that this influx of capital may not be well-timed. Investing at high valuations can lead to lower future returns.
Correlation with Global Trends: Historically, India tends to see stronger FII inflows when global investment in emerging markets is robust. This implies that many FIIs are following a passive investment strategy, deploying funds based on overall market trends rather than on specific conditions in India.
The key takeaway is that investment flows into a market are often a reaction to existing performance rather than a driver of that performance. Therefore, simply having more foreign investment does not guarantee high returns for investors in the Indian market