On March 10, 2014, the S&P BSE SENSEX Index hit a record high—21,934.1 Many U.S. investors might be surprised by this fact, in that the experience of a typical investor accessing India’s equities has not been indicative of a market strong enough to surpass its own January 20082 and November 20103 highs.
U.S. Record Highs vs. India’s Record Highs
U.S. equity markets, such as the S&P 500 Index, are performing well and continuing to trend toward periodic record highs. This is what investors expect when the term “record high” is used—a strongly positive performance. With India, the single word that comes to mind to characterize the current experience is volatility. This equity market, at least from our perspective in the U.S., has been driven less by the fundamentals of the underlying stocks and more by macroeconomic sentiment regarding either India itself or broader emerging markets.
Currency Can Cut Deeply
The critical link that we’ve thus far left out is India’s currency, the rupee. A U.S. investor typically accesses India’s equity market with valuation or other fundamentally related factors in mind. However, as with any other foreign equity investment, the country’s currency becomes a second position for the investor. Recall that whenever the purchase of foreign equities is involved, an investor has to sell U.S. dollars and buy a foreign currency—in this case Indian rupees—to buy the foreign stocks. The rupee has been particularly volatile and has behaved as somewhat of an economic barometer, reflecting changes in investor sentiment.
How Influential Has the Rupee’s Performance Been?
Looking back to August of 2013, as the S&P BSE SENSEX Index was trending upward toward a record high, the rupee was actually diving to a record low—an exchange rate of nearly 70 per U.S. dollar4. At this point in time, investors were very concerned with India’s current account deficit, and there was also deteriorating confidence in India’s fiscal and monetary policies. Since then, the rupee has strengthened back to a level closer to 60 per U.S. dollar, which is still approximately 50% weaker than the levels seen as recently as the end of July 2011.5
Illustrating the Issue for U.S. Investors
We’ve set up a veritable tug-of-war between India’s equities and its currency, and the currency has been dragging down market performance for U.S. investors.
Looking at Profitable Firms in India
WisdomTree created an Index of India’s equities to measure the performance of the country’s profitable companies. Its inception date was in December 3, 2007. What has the performance experience been over this period?
India’s Currency Has Been a Major Headwind for Equity Returns
• Volatility Clearly Evident – Whether looking at the WisdomTree India Earnings Index measured in U.S. dollars or in Indian rupees, it’s pretty clear that the market has been very volatile. Generally speaking, India is a higher beta emerging market country, and the WisdomTree India Earnings Index is broadly inclusive of profitable companies, including even small-cap firms as constituents.
• Large Currency Impact – Given our inception date, the chart makes it clear that currency has been the primary factor leading to negative returns—as the equities in local currency terms are in net positive territory and close to all-time highs. Cumulatively, the rupee has depreciated nearly 36% against the U.S. dollar over this period. Measuring the performance of the WisdomTree India Earnings Index in rupees shows a cumulative return of over 7.5%, a positive figure. But accounting for the exchange rate depreciation brings this cumulative return down to a negative 31%.