While the Indian equities market may have lagged those of other emerging markets so far this year, this period of relative underperformance has thrown up some compelling investment opportunities, according to Ajay Argal, manager of Barings’ recently-launched India Fund.

Argal notes that Indian equities are currently trading at extremely low valuations which are not justified by the fundamentals of the Indian economy or market. Accordingly, nimble investors can take advantage of some compelling valuations to take advantage of strong Indian growth over next year, the firm says.

“Share price valuations in the Indian market are now as low as they have been since late 2008 in twelve-month forward price/earnings, price/cashflow and price/book terms, both relative to history and relative to their emerging market peers. Almost 60 per cent of the companies listed on the BSE 500 Index are trading below 2 in terms of P/B (price-to-book ratio) and the median P/B of the Index is just 1.6,” said Argal.

“Such an extreme valuation level might be justified if there was a fundamental problem with the Indian economy or the Indian market, but we see no evidence of that.  Against a backdrop of sluggish growth across the developed world of perhaps 1.9 per cent next year, the International Monetary Fund continues to predict that the Indian economy will grow by a robust 7.5 per cent in 2012.”

In Argal’s view, the healthcare sector represents attractive opportunities dues to Indian firms broadly having good cash flows and high earnings visibility, and he also points out that the country is home to a number of world-class pharmaceutical companies which are well-positioned in terms of cost base to exploit the growth potential of the US generics market

Another tip is Indian telecoms, as although the sector has been hit hard in recent years by consumer-friendly regulations which have driven down prices and put pressure on corporate earnings, the Indian government is now planning to ease the regulatory burden on operators and allow some consolidation in the sector. As such, Argal anticipates that some of the larger telecoms firms will start to see earnings pick up.

“The sector has lagged the rest of the market since the phase of fierce competition started around two-and-a-half years ago but we believe that the competitive dynamics have started to improve with rising prices in the last six months. In our view, telecom services firms should also benefit from the ongoing increase in mobile phone usage. Even compared to other emerging markets, India has huge growth potential in this area with just 60 per cent of the population owning a mobile phone SIM card. This figure is forecast to rise to 75 per cent just over the next four years,” said Argal. In his view, positive headwinds for the Indian telecoms sector will also come from the launch of high-speed 3G technology – as previously seen in China.

While Barings remains convinced of the continued rise of the Indian consumer, the firm sees this more as a long-term story and so remains cautious on the more immediate outlook for consumer-related sectors.  Consumer staples many well have outperformed relative to the rest of the market in recent times, but Argal is sceptical that much upside remains at current valuations.

Correspondingly, he also views consumer discretionary valuations as overstretched, although Barings is more positive on the investment case for this sector due to its prevalence of firms with strong cash flows and significant market share, and which have a history of delivering high returns on equity to investors. Argal is however mindful that the high interest rate environment might bite into consumer spending and therefore profit margins.

Argal is also keeping a close eye on financials - a sector which represents the largest weighting in the MSCI India benchmark. In the short term, Argal cautious on financials, particularly public sector institutions in light of the fact that high interest rates and sluggish global growth will likely hit banks’ earnings.

“Asset quality issues have started to surface in non-mortgage retail loans and loans made to small and medium-sized enterprises, most notably in the state-owned banks. In this environment, our focus is on high-quality banks which enjoy low funding costs, a low risk loan book and low levels of non-performing loans,” he said.