From the April 2011 issue of Research Magazine • Subscribe!

India’s Emergence

How an increasingly important nation’s stock market developed.

In recent years, India has emerged as a prime focus of interest for international investors. This interest has risen along with Indian share prices. The benchmark Bombay Sensitive Index, or Sensex, which first hit the 6,000 line in February 2000, took over five years to climb to 7,000. Then the 1,000-point milestones began falling quickly, in periods of months or weeks. In early January 2008, the Sensex pushed above 21,000.

The Sensex then was caught in the calamitous downdraft of the global financial crisis. It hit a low of 8,160 in March 2009 but was back above 17,000 at year-end. In late 2010, the index briefly touched the 21,000 line again, though the early months of 2011 would see it dropping once more. In early

March, the Sensex was in the mid-18,000 range, a level that still put it some 90 percent higher than at the start of 2006.   

International investor sentiment toward India has been buffeted in recent months by concerns about regulatory and tax conditions in the country. One factor has been a growing controversy involving alleged corruption in the government’s allocation of spectrum for cellphone services. Another has been a legal fight over the British company Vodafone’s tax liability stemming from its acquisition of telecom operations in India.

Still, while China has occupied a greater share of world attention with its spectacular economic growth and share price rises more dramatic than India’s, there are sound reasons to regard India’s market as the better long-term bet. For one thing, India, reforming from decades of a comparatively mild socialism, is much less burdened by a legacy of state-owned companies such as remain a substantial presence in China’s economy.

Moreover, India holds an advantage regarding political risk. China’s authoritarian system provides a formidable appearance of stability but few means of assessing what internal tensions and popular discontent may be bubbling beneath the surface. India’s democratic system, for all its noisy fractiousness, enjoys a wide public consensus that its constitution and governmental institutions should not be scrapped for something else.

Early Development

India has one of the world’s longest histories of securities trading, distinguishing the country from many emerging markets in which trading began only in recent decades or resumed after long periods of inactivity. As far back as the late 18th century, there seems to have been trading of debt securities of the East India Company, then the de facto government of the country (prior to formal colonization by Britain in 1858).

By the 1830s, the market expanded to include trading in bank shares. In the next few decades, limited-liability laws opened the way for transactions in a broader variety of corporate issues. Much as American stock trading took root by a Wall Street buttonwood tree, India’s nascent market grew alongside the banyan trees near Bombay’s Town Hall.

The American Civil War sparked a surge in demand for Indian cotton to replace the disrupted American supply. This brought about a bubble in Indian share prices that promptly collapsed when the American conflict ended. Brokers, having briefly enjoyed popularity, now were viewed with irritation, sometimes even roused by the police from their trading areas. Seeking to protect their interests, they worked to develop a formal stock exchange.

In 1874, the brokers found a permanent place on what came to be known as Dalal Street (Brokers’ Street) and in the following year they organized as the Native Share and Stock Brokers Association, which eventually was renamed the Bombay Stock Exchange. In 1908, an informal market in Calcutta became the Calcutta Stock Exchange.

Modern Times

By the time India became independent in 1947, there were seven stock exchanges around the country, and the number of listed companies was over 1,100. However, growth in equity trading in the early decades of independence was slow, reflecting modest rates of economic expansion and a heavy government hand on financial markets. A 1957 wealth tax put a damper on trading, for instance, as did a dividend freeze the next year.

A significant step in bringing retail investors into the Indian stock market was the initial public offering of conglomerate Reliance Industries in 1977. Reliance co-founder Dhirubhai Ambani was an ardent promoter of share ownership, holding shareholder meetings in stadiums and drumming up interest in Reliance’s subsequent issues.

In 1991, faced with a stagnant economy and mounting fiscal pressure, India’s government began a broad program of economic reform. This included financial liberalization, such as a clearing away of old rules that in effect had given government officials authority over the pricing of new securities issues. The National Stock Exchange opened in 1992 in Mumbai (formerly Bombay), near the Bombay Stock Exchange. A new regulatory agency, the Securities and Exchange Board of India, was established that year as well.

The stock market began to rise quickly, buoyed by expectations of faster growth. The Sensex, which had hit 1,000 for the first time in mid-1990, crossed 2,000 in January 1992, 3,000 in late February and 4,000 in late March. The rally was then disrupted by scandal. Harshad Mehta, a high-profile Bombay broker, was exposed for massively using fraudulent bank loans to bid up share prices. Banks demanded their funds back, and the market plunged. The Sensex dropped 570 points, or over 12 percent, on April 28, 1992.

The Sensex would not reach the 5,000 line until October 1999. By that time, the U.S. dot-com boom was underway, and India had become well-positioned to capitalize on growing international demand for software development and information-technology support. That upward swing would fade along with the U.S. tech boom. The Sensex, which climbed above 6,000 on Feb. 11, 2000, was back at 4,691 on April 4.

Still, India entered the new millennium as a country very much on the radar screen of international investors. In November 2001, it became a BRIC, as Goldman Sachs economist Jim O’Neill coined that term for the large and promising emerging markets of Brazil, Russia, India and China.

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Exchange-Trading India

Various U.S.-based exchange-traded products are focused on India, offering an assortment of emphases.

The PowerShares India Portfolio (PIN) tracks the Indus India Index, composed of 50 large stocks; it has a relatively low expense ratio of 0.78 percent. The iShares S&P Index Fund (INDY) is also focused on large-caps, tracking the National Stock Exchange’s “Nifty Fifty.”

The WisdomTree India Earnings Fund (EPI) contains over 140 holdings of various market-cap sizes, and filters out unprofitable companies. Market Vectors India Small-Cap (SCIF) focuses on companies with an average market cap of about $450 million. Emerging Global Shares INDXX India (SCIN) also has a small-cap focus.

The iPath MSCI India ETN (INP), introduced in 2006, was the first exchange-traded product offering exposure to the Indian market. It is an exchange-traded note. The Direxion Daily India Bull 2X Shares (INDL) and Direxion Daily India Bear 2X Shares (INDZ) funds are leveraged funds for bullish and bearish investors, respectively.

The Emerging Global Shares Indxx India Infrastructure Index ETF (INXX) was started in August 2010, marking the advent of sector ETFs for India. The fund tracks an index of 30 companies in infrastructure-related fields such as telecom, utilities and industrial materials.

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