India Falls Out of Favor With Asia Funds

Asia-focused funds have been cooling on India, cutting their allocations to near 5-year lows in May, according to HSBC’s latest fund positioning report. This marks a significant shift for a market that has been a darling of foreign investors in recent years.

The report, which tracks mutual fund holdings, shows that Asia (excluding Japan) funds have been trimming their India exposure while simultaneously increasing their mainland China allocations. This rotation comes despite ongoing concerns about China’s economic recovery and geopolitical tensions.

So what’s behind this pivot?

A few factors seem to be at play. First, valuations in India have become stretched after a strong run-up, making the risk-reward less attractive for some investors. The MSCI India index is trading at a forward P/E of around 20x, a significant premium to most other emerging markets.

Second, there are growing concerns about India’s economic momentum. While GDP growth remains robust on paper, high-frequency indicators have been showing signs of softening consumer demand and slowing industrial activity.

And last, the political landscape is becoming more uncertain as India heads into election season next year. While Prime Minister Modi remains popular, opposition parties have been gaining ground in some state elections, raising the spectre of potential policy shifts.

The fund flows tell an interesting story too. Foreign institutional investors have withdrawn about $1.2 billion from Indian equities year-to-date, according to HSBC’s data. This comes after strong inflows of $21.7 billion in 2023. However, it’s worth noting that the picture isn’t uniformly negative. Global emerging market funds have actually increased their India holdings slightly, suggesting a divergence in views between Asia-focused and broader EM investors.