India's Domestic-Demand Stocks Go Vertical

 | May 09, 2017 | 10:00 AM EDT
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South Korea went to the polls today with its stock market, closed for voting, at an all-time high. But there's another outstanding performer in Asia so far in 2017.

India's economy is growing at a clip of 7.2%, as forecast by Oxford Economics for 2017. And its stock market is performing even better: the benchmark Sensex from the Bombay Stock Exchange is up 12.4% so far this year.

Domestic demand and the rise of the middle class are underpinning the rise, as is the case throughout most of Asia's top-performing economies. India has played second fiddle to China in the minds of many an investor, but appears to be prepared for its solo now.

Christopher Wood, the well-followed equity analyst for Asia-focused brokerage CLSA, has 12% of his Asia ex-Japan portfolio allocated to India, the largest overweight by far. The domestic demand-related stocks have "gone vertical of late," he notes in his most recent Greed & Fear newsletter. But in the case of housing-related stocks in particular, they may still have plenty of room to rise.

The administration of Prime Minister Narendra Modi has launched a massive "Housing for All" push for affordable housing. That program targets the construction of 50 million homes over the next five years.

That will feed through to more jobs in construction -- CLSA figures every percentage point of housing-construction growth results in 200,000 to 300,000 jobs. The likely compound annual growth rate of 8% would therefore amount to 2.0 million new jobs.

India doesn't produce solid figures on the number of jobs generated. But India strategist Mahesh Nandurkar figures that the country has been generating around 6.0 million jobs per year, while it actually needs to create 9.0 million. The construction sector is a classic way to absorb low-skilled rural labor.

That's vital at a time when the real-estate industry is struggling to contend with the effects of demonetization and faces substantial pressure on the way it operates.

"Black money" was a perpetual problem in the property industry, so it has been one of the targets of the decision on Nov. 8 to declare the 500 rupee ($7.50) and 1,000 rupee ($15) notes useless as tender. That rendered 86% of the cash in circulation worthless unless it was returned to the bank -- and into the official system.

India also introduced a new property law last year, the Real Estate (Regulation and Development) Act, or RERA. The most important stipulation is that developers must now put at least 70% of the cash from pre-sales into an escrow account until a property project completes.

That will hamper cash-strapped companies, likely leading to "brutal" consolidation in the sector, in Wood's eyes. The long-term beneficiaries will be developers that are both well-capitalized and that have a track record of completing projects in good time.

The largest beneficiaries of the housing-policy rally so far are home lenders. Specifically, HDFC Ltd. NSE:HDFC (up 21% this year), GRUH Finance (GRHFY) (up 28%) and Indiabulls Housing Finance (IDKQY) (up a whopping 72% in 2017!).

Wood concedes that those are already impressive gains. But the housing push is set to drive 17% annual growth in mortgage loans through fiscal 2024, bringing the share of the population that has a home loan from 9% now to 12%.

That's a mere 38.9 million new customers for home lenders, according to my napkin math! It brings the mortgaged total on the 1.3 billion people to 155.6 million folks.

Mortgage interest is running around 8.5%, which is cheap for India -- a 12-year low. That and home-purchase subsidies have brought affordability down to a record low, with home owners paying 22% of their income towards their house, down from a peak of 41% in 2007.

Other property-related stocks in the CLSA portfolio include the developer Godrej Properties NSE:GODR, which has virtually doubled since demonetization, and is up 76% this year. Cement maker ACC NSE:ACC (up 28% in 2017) is an indirect but very common-sense play on the affordable-housing push. Textile maker Arvind NSE:ARVIND (up 18%) also makes the portfolio, and has a real-estate arm.

Consumer-loan shop Bajaj Finance (BJJQY) (up 51% this year), life insurer ICICI Prudential Life NSE:ICICIPRULI (up 36%), IndusInd Bank NSE:INDUSINDBK and investment-bank-to-retail-lending HDFC Bank (HDB) (the U.S.-listed affiliate of the developer, up 27% this year) also offer financial exposure.

Maruti Suzuki (MRZUY) (up 25%), which makes and finances Suzuki cars in India, and broadcasting behemoth Zee Entertainment Enterprises (ZEEEY) (the laggard with an 11% gain in 2017), with its fingers in every media and entertainment pie, round out the portfolio, all again consumer-related plays.

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