Diaspora money deluge tickles Sensex

You remember my barber, don't you — not short of an opinion, and often ‘right on the money'.

During my last haircut I found he was seriously distracted while performing his task. The usually cheerful chap always initiated a conversation, or at least made sure I listened to his monologues.

This time he appeared too impersonal and preoccupied. I noticed that at frequent intervals he stepped behind a partition in his shop to look at a computer screen.

He might have been consulting a website to try something new to tease my scalp and its receding burden. But eventually I found his focus was elsewhere.

Reading the camouflaged displeasure in my enquiry, he apologised and informed me that he was placing a buy order on the Bombay Stock Exchange through an online trading platform. As he continued with his craft he explained to me his portfolio strategy like a seasoned fund manager.

With most banks and brokerage houses offering fully integrated trading accounts that are linked to normal saving accounts and depository accounts, online trading on Indian markets is now almost child's play.

My barber is not alone in the game.

There are several thousand non-resident Indians (NRIs) in the Gulf who are neo converts to the online equity cult. The recent surge by the BSE Sensex to near historic highs has prompted all and sundry to get on the bandwagon. Recently, an Indian banker told me that they are receiving hundreds of applications daily from NRI customers to open trading accounts.

Every Indian stock broker and fund manager I have met in the recent past has talked extensively of the prospects of double-digit economic growth, the great infrastructure boom that is waiting to happen and the huge foreign institutional money that is likely to flow in unabated.

Very few among them were willing to discuss some of the apparent risks such as surging inflation, potential interest rate hikes, and the possibility of foreign funds at some stage moving away to more lucrative markets.

While the NRIs are just about to join the party, big institutional investors have already started sounding out warnings on potential overheating in emerging markets including India. Indeed, excitement at what is called the retail level, that is ordinary folk, is often taken as a sure sign of a market approaching its top and ready to dive.

According to Deutsche Bank, emerging markets currently trade on a trailing price/earnings ratio of 16.6, versus 17.3 for developed markets.

The forward p/e of emerging markets is a little above the long-term average, and by asset-based measures such as price/book value emerging markets are now trading at a premium to the developed world.

Insignificant correlation

Researchers are now claiming that the much-hyped positive correlation between economic growth and market valuations are insignificant and unreliable.

Research stretching back to 1900 by academics at the London Business School found that, if anything, there was a "slightly negative correlation" between stock market returns and economic growth.

Citing this research, Jeff Molitor, chief European investment officer at Vanguard, says, "The speed and magnitude of the rush into emerging markets implies a strong component of performance-chasing and misunderstanding of the relationship of GDP to stock returns."

Despite a few such cautionary notes, a significant majority of money managers are optimistic about Indian stocks and most other emerging market stocks this year, despite these stocks being not as cheap as at the beginning of 2010.

In a recent interview with CNBC-TV18 India, Mark Mobius, renowned investor and executive chairman of Templeton Emerging Markets, said that he expects the money flow into emerging markets to continue well into 2011. At present, he finds India expensive on most valuation metrics. However, he feels that the high growth rate in India would support these high valuations.

Going by his hairstyle Mobius himself clearly is not a barber's delight, but his vote of confidence in Indian equities is certainly going to delight my barber, who, even so, may still need to be careful not to take a haircut on his own investment.