India and China: Crouching Tiger, Hidden Dragon?

Separated by the peaks of the Himalayas, China and India are two countries as vast and spectacular as the mountains that separate them. Both are home to well over a billion people and both have their challenges and opportunities alike. For investors, both countries are major constituents of the emerging markets equity indices, but recently they have seemed on very different trajectories. China, weighed down by problems in its property market and rising debt levels, is struggling to resurrect consumer demand post-COVID and to drive a rotation to a more domestically focused consumer economy. China looks challenged and appears a country that is increasingly perceived as a threat to ‘the West’. As a result, investors have taken flight and its stock market has collapsed to ‘cheap, but cheap for a reason’ territory.

India, on the other hand, can seemingly do no wrong and remains perceived as an opportunity. In the near term, it appears successful at navigating a tricky geopolitical world allowing it to benefit from cheap oil imports from Russia without antagonising those western countries imposing sanctions. With an economy already booming, if correctly harnessed, its young population can be a further tailwind to this growth, assisted by a government keen to drive reform and deliver greater economic liberalism. Investors have rallied to this big picture with enthusiasm, helping to push equity market valuations and investor expectations higher and higher.

A help and a hinderance

Whilst the headline total population numbers have India and China ranking alongside each other, the longer-term prospects couldn’t be starker. China’s one child policy and rapid fertility decline since the 1970’s has helped contribute to a premature peaking in its population and a faster transition to an ageing population, which is likely to weigh on its growth prospects. India is some way behind in its demographic transition and its population isn’t predicted to peak until the 2060’s, according to the UN Department of Economic & Social Affairs. The challenge for India will be whether it can successfully capture this demographic dividend or spill it and let it go to waste.

China has witnessed significant economic growth during the 21st century, propelling it to become the second largest economy in the world through high levels of investment and even higher exports. As China has grown, millions have been lifted out of poverty amidst the positive wealth effect of higher wages, but maintaining that positive wealth effect has been damaged in recent years by the falling property prices that much of that wealth had been reinvested into. This, combined with rising trade frictions and the threat from other Asian economies ready to take on the mantle of being cheap manufacturing exporters, has spurred the necessity for China to transform of its economy into a more domestic, consumer led growth economy. An ageing population represents a challenge to this transition.

As with other economies with ageing populations, retirees need plenty of savings to sustain an acceptable level of living. In China, where the social security safety net falls much lower, there is a compelling need for higher levels of personal savings. China has a household savings rate of around 35% of disposable household income GDP, according to the OECD, compared to mid to high single digits for countries such as the US, UK and Japan. This is a large pool of potential cash to unleash a consumer boom over the longer term, but it needs to run hand in hand with an expansion of heath care and pension provision, the sort of which, looks a long way distant. Whilst China’s economy dwarfs that of India, which is still not expected to catch up for decades, their trajectories are very different. All expanding economies slow their growth rates as they mature and China’s economy is slowing under the weight of its own, decades long expansion. On the other hand, India’s economy, like its population, is more youthful with the potential to grow faster, but delivering on that potential is not a given.

Chalk and Cheese

Whilst over recent decades, China’s economy has grown faster than India’s, in recent years a crocodiles jaws of a gap has opened in the performance of their stockmarkets. In China, foreign investor flight, large companies such as property developer Evergrande going bust as well as renewed pressure for Chinese companies to align with the Chinese Community Party values and agenda, have contributed to stock markets plummeting.

For Indian investors, returns have soared. Over the last 12 months since April 2023, the broad market indices, MSCI India and MSCI China, have returned over 38% for Indian equity market investors but delivered losses of -16% for their Chinese counterparts. There has been a similar divergence in valuation too. The Indian equity rally has seen various valuation measures stay elevated in line with strong corporate earnings growth and support from domestic and foreign investors, whereas China looks in the doldrums. For comparison, some relative valuation metrics:

  • The price/earnings ratio of MSCI India is 26.02x (with a forward price/earnings of 22.22x) and its price/book ratio 1* is >4x.
  • The same for MSCI China is 11.53 price/earnings (forward 8.88x) and a price/book of 1.19.
  • To compare, the MSCI Emerging Markets Index is 15.16x (forward 11.83x) and a price/book of 1.66x

1* Valuation is a slippery concept at best, but price/book shows how many times a company’s stock market value is worth compared to its break-up value (assets-liabilities). Price/Earnings is the share price/earnings per share. In both cases, lower equals cheaper, higher equals more expensive.

Glass half empty, glass half full

China is facing hurdles but is also facing a transition on many levels. Its once bountiful young and cheap labour force helped lift China to become the second largest economy in the world today. But now, the future it faces requires moving away from a growth-at-all costs economic model, to one of ‘lower growth, but higher quality’. It needs to do this whilst facing the headwinds of an ageing population, rising trade frictions and geopolitical risks. These are worries, so too is the increasing concentration of power in one individual away from a one-party system. Valuations in Chinese equities have moved strongly lower as a result and investor pessimism looks excessive and in the ‘glass half empty’ camp.

On the other hand, India looks well placed to drive its economy through the high growth phase of its own growth story. This is an opportunity, but in its own transition, execution risks remain high. An increasingly autocratic and illiberal political landscape, an infrastructure network that needs massive investment and a stock market that looks full of investor enthusiasm has helped push valuations to ‘rich’ levels. If executed correctly, the backdrop for India’s economy could positively be in the ‘glass half full’ camp.

As the traveller needs to overcome the Himalayan peaks and valleys that separate these two giants of countries, investors in both countries will face their own travails when investing in both India and China, not dissimilar to any other investment journey. We expect both markets to grow over the long-term and whilst a compare and contrast article hopefully makes for a good read, a good investment answer is probably going to be to have both.

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