PIN - Invesco India ETF: A Potential Winner In 2023

Summary

• The Invesco India ETF offers investors a diversified vehicle to gain exposure to Indian equities.
• Following a pre-election budget that balanced growth with fiscal discipline, the outlook for the Indian market looks good.
• Given the strong long-term fundamentals and technical flow tailwinds as well, India remains one of the more attractive regions to deploy capital.

Having outperformed virtually every other Asian market coming out of the pandemic, Indian equities remain an attractive place to deploy long-term capital. While investor concern about the valuations has merit, India deserves the premium to regional peers, given the secular growth tailwinds and the near-term boost from an expansionary pre-election budget. To recap, the budget stipulates a significant step up in capex spending on infrastructure and industrials, as well as lower effective taxes to boost consumption. Alongside the favorable external backdrop of lower crude oil prices and a slower pace of monetary tightening, India should see another year of strong economic growth. In turn, Indian equities stand to benefit; investors looking for exposure would do well to consider the Invesco India ETF ( PIN ), a relatively low-cost US-listed Indian investment vehicle.

Fund Overview - Diversified India Exposure Without the Outliers

The NYSE-listed Invesco India ETF seeks to track broadly, before fees and expenses, the performance of the FTSE India Quality And Yield Select Index, a market cap-weighted index comprising high-quality and high-yield Indian securities. The key adjustment made by the ETF is that it excludes index outliers - stocks in the bottom 10% of the overall quality score and dividend yield are excluded. For this service, the fund charges a 0.78% expense ratio, which is higher than most other passively managed options. The fund had a $90.4m market value at the time of writing.

As reflected in the graphic below, the fund's sector allocation is broadly diversified across sectors, led by financials (19.3%), information technology (17.4%), and energy (12.3%), which accounted for a combined 49.0% of the total portfolio.

The fund's largest holdings are Indian multinational conglomerate Reliance Industries ( RLNIY ) at 9.5%, IT consulting giant Infosys ( INFY ) at 7.5%, development finance leader Housing Development Finance Corporation Ltd at 6.3%, and Tata Consultancy Services ( TTNQY ), another IT consulting leader, at 4.8%. The portfolio is composed of 165 holdings, and with the top five holdings accounting for ~31% of the overall portfolio, this is one of the more well-diversified Indian ETFs in the market.

On a YTD basis, the ETF has declined by 0.5% (vs. -1.2% for the index) but has compounded at a 2.6% pace since its inception in 2008. Thus far, the fund has distributed $2.99/share for 2022, implying a ~14.2% trailing yield. This mainly came out of long-term capital gains, though, reflecting the fund's historical outperformance. Distribution from income typically runs at <1%, so income investors may want to look elsewhere. Instead, PIN makes more sense for growth-focused investors who view the extra yield (from income or capital gains) as a nice bonus.

Pre-Election Budget Signals a New Growth Impetus

The recently unveiled 'Union Budget' for this fiscal year saw the Indian government double down on its commitment to driving growth through a ramp-up in capital spending and investments. While government expenditure is up by a high-single-digit % YoY, the capex growth (including related grants) is significantly higher at >30% YoY. Most of the allocation will go to infrastructure, including roads, railways, power, and urban infrastructure. Beyond the direct impact of this investment, the continued focus on infrastructure spending should have spillover effects for domestic growth as well. So assuming the budget implementation goes as planned, expect higher earnings revisions not only for major industrials like PIN's largest holding, Reliance Industries but also for the rest of the portfolio over time.

A more surprising positive was the tax cuts for middle-income households - to recap, the individual income tax waiver threshold has been raised to Rs.700k (up from Rs.500k previously) under the new scheme. In the grand scheme of things, this implies a modest tax cut at ~0.1% of GDP to be transferred out of the government budget. But prices are decided at the margin, and the benefits of the increased spending power for the middle class should drive growth throughout the broader economy. Perhaps most importantly, the increased government spending is being done responsibly - the fiscal deficit is forecast to land at a very reasonable ~6% of GDP despite the step up in spending, so investor confidence should remain intact, in turn limiting any downside for PIN holders from FX exposure.

Technical Tailwind Intact

2023 looks set to be the year of the Chinese post-COVID rebound, and thus, India will have competition for foreign institutional investor ((FII)) flows. A fund flow offset, if any, will likely be temporary over the near term, though, given the relative competitiveness and growth potential of the Indian market. Plus, even during years with strong China inflows, India was able to attract an impressive share of fund flows , particularly on the equity side via FII and mutual fund flows.

This time around, the rise of passive management and India's increased weight in global indices should mean continued flow tailwinds as more and more fund flows use the global indices as a benchmark for capital allocation. For actively managed funds, there is a clear fundamental case to attract more flows as well, given India's strong GDP growth outlook and easing inflation; next year's election catalyst also bodes well for corporate earnings.

A Potential Winner in 2023

Indian equity valuations don't screen cheaply following another year of relative outperformance in 2022, but the setup remains as compelling as ever, in my view. Growth remains intact in the near term, as the latest budget outlines a step up in capex spending on infrastructure and industrials, as well as a consumption boost from the new tax regime. In addition to the technical tailwind from sentiment-driven investor flows ahead of the coming elections, last year's external headwinds are reversing as well - crude oil prices are lower YoY, China is reopening, and global monetary tightening is slowing, led by the Fed. All in all, Indian equities are a great place to be in 2023, and investing in a diversified basket via the US-listed Invesco India ETF is a great option.

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