Sunday, July 4, 2010
How to Bet on India's Infrastructure Boom
Want to make money off India's infrastructure boom?No, you can't invest in the $11 billion fund which the government recently said it would set up to finance India's much-needed infrastructure development. That fund will be available only to large institutional investors like insurance companies, pension funds, and so on.
For individuals who want to participate in India's infrastructure growth story, the options are limited. The wealthy -- with 1,000,000 rupees or more to invest -- can buy directly into infrastructure projects through private equity and venture capital deals. For the rest of us, buying stocks of infrastructure companies is the best bet. Some infrastructure bonds are also expected to come to market over the next few months but their returns may be fixed and thus not be tied directly to infrastructure growth.
The case for investing in India's infrastructure is obvious: to keep the economy growing at a rate of 8% or more, we need to build roads, generate more electricity and provide more water to all of India. And we need to do all of this pretty quickly. So, barring some unforeseen economic setbacks, it's fair to expect that companies involved in the infrastructure space will grow at double-digits rates.
To get exposure to this growth, consider buying a mutual fund which invests solely in infrastructure-related stocks. A fund is a better bet than buying individual stocks because funds invest in a number of companies and thus reduce the risk that one company's failure could decimate your portfolio.
There are around a dozen infrastructure open-ended mutual funds in India, and the number is growing. The most recent entrant was Baroda Pioneer Infrastructure Fund, launched last month.
The definition of what sectors are included in infrastructure is loose but they typically include companies tied to transport such as roads, airports and ports, power and engineering companies, and also construction-related companies. Some money managers consider banks also as part of infrastructure because they provide financing to these projects.
Fund managers say in recent months more and more projects are being undertaken which should boost the earnings of these companies. Srividhya Rajesh, manager of the Sundaram BNP Paribas Capex Opportunities fund, says that some medium and small companies today have orders in hand which are three to five times their current year's sales, making them attractive investments.
The Sundaram fund has 5 billion rupees ($110 million) under management, and it has returned 8.8% annually for the three years ended Thursday, according to data firm Value Research India Pvt Ltd. In comparison, Bombay Stock Exchange's 30-share Sensex has gained 5.3% over the three years through Thursday.
Anand Shah, manager of the Canara Robeco Infrastructure fund, likes oil and gas companies, especially government-run oil marketing companies, because they will benefit from upcoming reforms. Mr. Shah believes that the government will, in some form, follow the recommendations of the Kirit Parikh Committee report which suggests that Indian oil companies be allowed to charge prices which are tied to international prices.
Mr. Shah's fund has 2.6 billion rupees ($58 million) under management, and it has earned around 12% over the last three years, according to Value Research.
The potential of infrastructure companies has not been overlooked by other investors, who've been piling into these stocks lately and pushing up their prices. "At current valuation, one needs to be cautious on infrastructure," says Mr. Shah.
Individuals would be best off investing in a "systematic investment plan" in which they periodically put small amounts of money into a mutual fund over a period of time. That way, investors capture any dips that may come in the broad stock market.
To be sure, infrastructure investing is not for everyone. Like other "sector" or "thematic" funds, infrastructure funds are more risky than a diversified fund because their fate is tied to a narrow sphere of companies. Typically, the fortunes of infrastructure companies are dependent on the economic cycle; they do well when the economy is expanding and vice versa. In 2008, when the Indian economy slowed due to a global crisis, infrastructure companies, and in turn the mutual funds which bought them, lost more than the broad market.
The bottom line: Investors need to approach this investment with a long-term mindset. "You might end up losing a lot of money if you don't stay through the cycle," says Mr. Shah.
Ideally, you want to allocate only 2% to 3% of your overall portfolio to a sector fund like this.
If you don't want to take the risk of investing in the stock market at all, you can watch out for some infrastructure bonds that are expected to be issued this year. Finance Minister Pranab Mukherjee announced earlier this year that investments of up to 20,000 rupees ($450) into some types of government-specified infrastructure bonds can be deducted from your taxable income.
While we have no further details about these bonds yet, based on some similar bonds issued in the past, financial advisers expect that they will require a lock-in of five years or more and could carry an interest rate which is one to two percentage points lower than the prevailing interest rate on comparable bonds or fixed deposit programs because of the tax benefit. Most likely, the government will issue these closer to the end of the year when people are thinking about tax-savings.
Vivek Rege, a financial planner in Mumbai, expects that these bonds will see a huge response but not necessarily because they are tied to infrastructure. People "will put blindly into anything which gives them a tax deduction," says Mr. Rege.
If that money can help get us better roads and ports, I'm not complaining!
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