Talk Your Book: The Bull Case for India

0:00Today's Animal Spirits Talkbook is brought to you by Simplify Asset Management. Go to Simplify.us to learn more about the Simplify Terra India Opportunities ETF. That's Simplify.us.

0:33investment decisions. Clients of Ritholtz Wealth Management may maintain positions in the securities discussed in this podcast.

0:43Welcome to Animal Spirits with Michael and Ben. Michael, if you sell me on consumers spending money, that's all I need to hear. Right? For a macro theme. You are a sucker for a good spender. So we talk about, India has been in the news, I don't know, it's been a nice run for the last, what, 12, 18 months, the stock market. And it's one of those fool me once situations like, listen, emerging markets, growing middle class, consumers going to spend money. I've heard this before. And it didn't work out that well for the BRICS or China, especially, right? Yeah. Is there a and? And so India is apparently going to be the next China.

1:22A billion people growing middle class, coming out of poverty, ready to spend money. And the question that we pose on the podcast today is, okay, what makes India different? Yeah, this is an interesting episode. I learned a lot, particularly that it sounds like they're not just reliant on, now listen, okay. The demographic tailwinds is obviously an enormous part of the story, but there's real companies there that are not just reliant on other emerging economies. Like they're selling massive deals to Western economies. Yeah, it actually, the story makes sense. The thing that I never realized is that India has always traded at a valuation premium to the US.

2:01So it seems like it could be prone to huge boom and bust cycles, if that's the case. But the opportunity set for consumers reaching a specific per capita level of GDP, and then that's when they decide to, okay, we've passed the needs level. Now we're going into the wants and desires and discretionary spending. That whole thesis makes sense to me. So for today's show, we talked to Anupam Ghosh, who is a managing partner at System 2 Advisors, which is a sub-advisor to Simplify. And they have an active India ETF. It's more concentrated, but he had some really interesting thoughts on not only the macro side of it, but also investing in India and some of the opportunities there.

2:37So here is our conversation with Anupam.

2:43We're joined today by Anupam Ghosh. He is a managing partner at System 2 Advisors for the Simplify Terra India Opportunities ETF. Yeah. IOPP, is that correct? That is correct, Ben. All right. So, I wanted to get into this. We've had a number of people on the show in the last couple of weeks and months talking about China. And I feel like I've heard about the emerging markets opportunity for years now, especially coming out of the 2008 crisis. The idea was the U.S. and the rest of the developed economies are going to have slower growth because of demographics. And then in the emerging markets, you're going to have way faster growth because there's tons of people.

3:18There are younger, better demographics. There's going to be more consumer spending. And so I'm curious to hear your take on India as a whole. Like, why isn't India China? What makes it different? Because there's a billion people and economic growth is faster and a rising middle class and the consumer class. So what makes it different in terms of transiting that into stock market returns? Ben, I think you've hit the nail on the head, which is the demographic dividend. And I'm proud to tell you that I'm a dropout of a PhD program in economics. and while economists have very, very, very arcane, jargony sort of definitions of what the demographic dividend is, I have a much more pedestrian explanation, which is if you have a large enough population and your per capita GDP gets to about$2 ,000, discretionary consumption sets in.

4:09You begin to demand a$1 ,000 phone,$1 ,500 TV, $10 ,000 car, et cetera, et cetera. that sets off a chain of self-sustaining consumer discretionary spending, which takes GDP per capita from$2 ,000 to$6 ,000 in a straight line. That translates to about two decades of 10 percent growth. We saw that movie in China, 95 to 2015. Now they're caught in the middle of a trap and they're headed down like it, or they're sliding sideways. In India, the demographic dividend is just started where the per capita GDP is about$2 ,300. So we believe the next two decades for India will be absolutely the best decades in terms of consumer discretionary spending.

4:58And that is reflected in the average age in India, which is a full 10 years younger than that of China. So we're having like a Bataan handoff here from like China had their 20, 30 years of growth, and India is going to take that and do the same thing, similarly at least. I'm sorry, Ben, did you call it a Bataan? Sorry, Bataan handoff? What did I? Close enough. But so my big question is, so China had this unbelievable growth, but their stock market went nowhere, it seems like. So why is India different in terms of the stock market then? How is that growth going to translate into better returns for investors?

5:33Great question, which is India is a plural, multi-ethnic democracy with a relatively, you know, sort of, compared to China, a free economy, freedom of expression, a democracy. You know, India has been a mercantilist economy or a country for the last 5 ,000 years. What happened in China, where essentially, you know, due to the Cultural Revolution and the Communist Party, they effectively wiped out all institutions of what we deem modern capitalistic infrastructure. And India has always been there. If you look at how old the Bombay Stock Exchange is, it's about 200 years old. So there's always been a history of mercantilist slash free market-ish economies.

6:23That had changed somewhat after the country got independence, and it took a more socialist stern, but all that reversed again in 1990 when the economy opened up. I was listening to a conversation that you and Brian had, and he shared an incredible data point, which is that 42 % of India's population is under 24 years old, and only 21 % is over age 50. My question is, why now? India's stock market has been red hot. It's been all over the news. was there a catalyst or was this just the demographic tailwind of people coming into sort of peak earning years? Like what exactly lit the fuse? You know, there's nothing that's sort of lit the fuse.

7:12There's one watershed event that we can point to saying, this is what caused the growth or the markets to take off. If you go back, If you go back to, say, 2002, 2003, GDP was about$500 billion. Today's$4.2 trillion. Markets, the NIFTI was$800. Today's$23 ,000. Now, all that is good. But question is, where is the GDP headed? By most conservative estimates, in the next five years, the GDP will grow from$4.2 trillion to about$7.5 trillion, where India will overtake both Germany and Japan to become the third largest economy in the world. So as GDP is growing, as GDP is growing, the markets and just beta continues to grow with it.

8:01If you look at the last 20 years, that shows you that. Now, again, being a student of the markets and I've been around for the last 30-ish years, the market cap of any country is typically between 0.8 times to 1.2 times the GDP. So the GDP is growing, markets are growing. If the market is in favor, it's more like 1.2 times. The market is not in favor, it's like 0.8 times. So we think that as GDP grows, the markets will grow. Now, the other thing that's become very, very important these days is if you look at the EM basket, The big heavyweights, you know, which are China, Russia, Brazil, South Africa, Turkey, these are uninvestable countries, in my opinion.

8:46So India remains the only investable country, you know, of the larger EM basket. I think in my conversation with Brian, I made the comment that, you know, I was a Goldman when the acronym BRICS was coined. Today, the only the I of the BRICS stands. And that's just fact. So with that, Ben and Michael, if you look at India's weightage in the MSCI EM basket, that has grown fairly steadily over the last, it used to be, and I'm going to read some statistics to you, which is it used to be 6 % between 2003 and 2013. Then sort of, you know, it went up to 10 % from December 2013 to 2023. And now it's at 17%.

9:33So as passive money is flowing in, that's sort of making the market more attractive as we go. So India is going to pass China's stock market in terms of EM in the next, whatever, five years or so. You know what? The thing has been that we have grown up being Western educated. We've grown up looking at the world through the MSCI aquiprism, where we say, hey, the US is 40%, 50 % of the market cap. So 50 % of the assets should be here. EM is 10%. But in the EM basket, this is this and that's that. That's a very naive way of looking at the world. Not a wrong way, but a naive way. If you are the head of a manufacturing company, say Boeing, you don't have an MSCI ACQUI EM strategy.

10:17You have a China strategy and you have an India strategy, but that's where you sell planes. So we think that lumping all emerging markets into one lot. And so that gives you a very, very mixed picture rather than looking at the markets or looking at each market separately. Now, and that's the case for India today. There's been the case that the stock market is not the economy. And I think China is probably the poster child for that statement where the GDP grew at, whatever, making this up 6 % a year, and the stock market returns were nothing effectively. What would be the transmission mechanism for which GDP growth in India would translate into stock market increases?

11:01Michael, great question. GDP growth in India will translate to higher consumer discretionary spending. Every point in GDP growth translates to 5x of consumer discretionary spending because basic consumer needs already met. All marginal income is going into discretionary spending. If discretionary spending goes up, leads to higher earnings. Higher earnings just lead to higher prices. So my question is, if we're getting on the India train and we see this economic growth coming and it's unstoppable, basically, why wouldn't you just invest passively in India? What's the difference? So you have a more active fund and a more concentrated fund.

11:42Why invest in a more active approach? and what are some of the themes that you see an active approach can help that maybe aren't picked up in a passive approach? Ben, if you look at the passive approach, and I'm not in any way saying the passive approach won't work, if you look at the composition of NIFTY, the passive approach would be 100 % there if you believe the composition of the NIFTY reflected the growth in GDP and the growth in consumer discretionary pending. If you look at the heavyweights in the index, they're largely IT companies. As you know, India has a large number of very, very large cap, mega cap IT companies.

12:28You know, the Infosys of the world, the TCS of the world, the Wipro of the world. The growth drivers for a Wipro or an Infosys, or any of these big IT companies, is not GDP growth in India. They happen to be from India, but their markets are all in the West. So H-1B policy in the United States, labor laws in the United States have a much more, much greater effect on the earnings of these companies than India consumer growth. So IT is one of them. Next one is pharma. If you, you know, either of us, all three of us, if any one of the three of us has a single generic medicine here in the US. I'm bald.

13:10Do you have anything for baldness? You know, I'm sure there is, but, you know, Michael, I don't take you on a trip to India for that. They'll sell you something. That's a must, you know. But generic, you know, pharma, India, you know, exports over$120 billion of generic pharma to the United States and Western Europe, et cetera, et cetera. Now, India has the second largest number of FDA-approved manufacturing facilities outside the U.S. I mean, after the United States. So now, if you look at pharma, big pharma, What drives big pharma is Medicare reimbursement policy, NIH reimbursement policy in the UK.

13:47It's not domestic growth in India. So you have large sections or chunks of the index which are dominated by these big companies. You know, you take oil, for example, crude prices. Now, there are two heavyweights, Reliance, ONGC, that are dominated by oil prices. Oil prices are set globally. They've got nothing to do with consumer growth in India. So the parallel I draw, Ben, is very simply, if you buy the FTSE, thinking you bought UK growth, FTSE has got nothing to do with UK growth. Similarly, the Nifty, probably about 40 % of the Nifty is actually focused on consumer growth. We are a vast majority focused on the growth of the Indian consumer in the short term, medium term, longer term.

14:29And then we play a number of themes around that. Is it as simple as retailers or how far does that consumer go? What are the simple ways it translates? Yeah. So it translates, Ben, into things like the country was largely unbanked, still is. So financials and financial inclusion, which essentially is a key part of the development of any economy. Financials are a large part of that. Now, financials are a large part of that. Consumer discretionary is also a large part of that. Consumer staples are also part of that. Because what you have is, as the country grows wealthier, if you want to call it that, and people enter the middle class, et cetera, et cetera, you now have, essentially, demand for packaged goods, higher quality packaged goods, things like that.

15:22So it translates into a whole bunch of different industries. and sectors that you can get into. Things like hospitals, things like hospitals, the need for healthcare, need for healthcare, formal healthcare, things like that are growing at an alarming pace in India as people have the means spent for this. It's typical for emerging market countries, stock markets, and I know it's a broad basket, to trade at a discount to the United States in terms of multiples of earnings, cashflow, whatever you want to look at. I'm curious, what does the Indian market look like with such favorable demographics, positive outlook?

16:00Does it trade at a smaller discount or maybe even a premium? It trades at a premium to the S &P. It always has. Oh, really? Wow. I didn't know that either. It always has. And that is about to get bigger as the amount of money coming into India only grows. I have three children. Tara is my daughter, youngest one of my three. If she asked me, why is the market going up? More buyers than sellers. It's as simple as that. It's as simple as that. Are there any parts of the stock market that are cheaper and have a valuation discount that you can see that people haven't figured it out yet or not really?

16:36There certainly are. There certainly are pieces of them that are not as well followed and not as hyped. But we don't typically look at that because India has about 5 ,000 or 6 ,000 listed companies. in our investable universe, there's only about 300, 400 names. 300 names. That's about it. There's only about 800 names that even pass the basic filters, you know, of, say,$150 million market cap and a minimum trading volume in a day, which is our very first screen that we run on the universal stocks. So let's talk about your portfolio. Where do you come from in terms of your background in security selection?

17:17are you top-down, bottoms-up, quantitative, qualitative, screens, technicals, fundamentals? What are you looking at? For the IOPP product, we are purely bottoms-up stock pickers. What we do is we start with identifying an investable universe. So for that, we use a market cap and a liquidity screen, which is at the very basic level. Then we basically use a bunch of sector-specific factors, things like return on investment capital, how asset light is it, et cetera, et cetera. And those sector-specific factors essentially take the universe down from about 800 names down to about 300 names. And then we apply what we call a four-pillar framework to it.

18:06We look at management quality, which is absolutely the most critical and the most important of all sort of stock selections or criteria. We look at - Wait, hold on. Before you move on to the other three, and we'll get there, I'm just curious why you say that management selection is so critical to your framework. Again, Michael, if you're going to hold a stock for three to five years, you have to be confident in the quality of the management. You have to make absolutely certain that the management is shareholder friendly. Now, India is dominated by conglomerates, family-owned conglomerates, who are typically not very efficient allocators of capital.

18:45I'll give you an example, Michael. You know, son comes to the United States to study. He studies computer science. They're in, you know, XYZ manufacturing. They say, oh, he's just come back from the US. Why don't we start an IT company for him? And they suddenly start allocating capital into this, which we believe is a poor allocation of capital. management quality, you know, ethical concerns, fraud, et cetera, et cetera, is rampant. You know, what you see in, you know, disclosed financials, et cetera, et cetera, you have to triangulate multiple ways in smaller companies to make absolutely certain.

19:21Again, you know, not in the recent past, but, you know, about 15, 17 years back, there was a fairly large IT company called Satyam listed in the New York Stock Exchange. All the numbers were fraudulent. So how do you quantify management, or is this more of a qualitative assessment? It's a qualitative assessment. But again, we look at how many years they've been a public company, how shareholder-friendly are they, how transparent are they in communication? Do they really act that way, or do they just say that? Everyone has an ESG policy and this and that. But once you start peeling the onion, you know exactly who's what, etc.

20:00Now, a lot of companies, as you know, which have been in the news, essentially use, I'll put this delicately, their proximity to governments, etc., etc., to enhance the bidding process and that. We stay away from companies like that because that's a worldwide phenomenon. I see that as much in the United States as I see that in India. But if there's a company that, you know, if there's a conglomerate that's particularly close to any sort of government and actually has used its connections to the government to enhance its own good, we know that when the government changes and India governments do change, they'll be the first ones out.

20:36When you're doing this qualitative assessment, I've heard it both ways from international managers. Some say you have to have boots on the ground. You have to have people there to get to understand it better and understand the culture and understand the people and talk to them. And other people say, no, no, no, you don't have to. We can, it's easier than ever because the world is flatter. Where do you fall on that line in terms of boots on the ground or not for research? You know, the name of the podcast is Talking Up Your Book. Given the extensive boots that we have on the ground, six to seven people on the ground, four offices, most of them who've grown up in India, know the products called, you know, have grown up in that ecosystem, that environment.

21:09We think there's no substitute whatsoever to having boots on the ground. Boots on the ground doesn't mean every six months you sort of fly in, meet the management, shake hands, kiss a few babies, and get out. That's me. It's really our people on the ground that actually touch and feel everything that they do, that these companies do. I'll give you another example of why boots on the ground helps and why Ben, when he said that if you're sitting here, you can do it as well, is we've talked about consumer growth in India. That's a very heterogeneous concept. It is concentrated in different pockets.

21:42It's actually a stark divide between urban consumer growth and rural consumer growth. And urban consumer growth, there are pockets, there are states in which it's happening. If you're sitting here, India could look like a monolith to you. Couldn't be further from the truth. So if you've grown up in India, if you've traveled in India, if you know local tastes in India, you're in a much better position. India has 16 official languages, all with their own script. It's actually a collection of 600 kingdoms with the British wove into a country by imposing common language and common law. I was born in India.

22:21I grew up there. I tried to build a business after I graduated. In 1988, failed. Came to grad school here in the United States. It's only when I was in grad school, investment biker, you know, name is escaping me. This is what happens when you go home. Jim Rogers. Jim Rogers. Just completed that. He came in and he was talking about India on his investment biker tour. and said, India is like the Balkans. It's an aggregation of 600 kingdoms woven together into a country by the British by imposing common law and common language, you know. Now, he said this about the Balkans when they were all part of the Soviet Union, you know.

23:00Oh, I think it was just falling apart then. Now, could that happen in India? I don't know. But India is a very, very diverse country. You don't feel that if you're sitting here and you just travel to the big metropolitan cities, which have as luxurious hotels as anyone else, you can sort of not see any of the India. It's only when you start traveling in India and go from region to region, et cetera, you know what the differences are and how do you take advantage of those. So we spoke about your first pillar, which was management selection. What are the other three that go into your process? The others are around sustainable growth.

23:37Does the industry or the sector have a long runway for growth, yes or no. It is on a secular, on an industry level. And there I'll tell you what are the threats to the moats, if you want to call it that. And every manager probably talks to you about this. I'll give you an example there. Infant formula, baby food, as we know it, that cannot be advertised in India. So you have big global consumer companies like Unilever or you know, Procter & Gamble, et cetera, that have their own consumer formula. As the middle class is growing, the demand for that is growing, you know, because they want a Western brand and they want a globally accepted sort of, you know, big brand.

24:19But the threat to competition coming in there is very low because it cannot be actually advertised, you know. So we look at those secular moats that exist. And then we look at sort of, you know, the key performance indicators of the companies, et cetera, et cetera, to see, is the moat sustainable? What are the threats to it, et cetera? Talking about moats, are you a Buffett-like investor where you're going to hold some of these concentrated stocks for a very long time, or do you have a lot of turnover? No, we do have enough turnover. We do turnover something like 120 % a year, which is 10%, which is not like 5 % a year or zero, but it's not like what we do in our hedge fund.

24:57We run high-frequency trading businesses. We run hedge funds where if people sort of hear about the turnover, they're like, whoa, that's not investing. That's the business of making money. Anyway, here, we are looking to hold stocks for three to five years. We have to be comfortable holding stocks for three to five years. And we have our own valuation methodologies, which I can go into in any case. And we have a one-year price target and a three-year price target. So again, we are looking to hold these stocks for a relatively long period of time, three to five years, you know, at the minimum. Now, sometimes what happens, you know, Ben, is that you get into a stock, it basically catches fire, it goes up very, very quickly, and before you know it, your one-year price target is it, and before you know it, within the year, your three-year price target is it.

25:44So we have elaborate reviews to figure out, in spite of the market rewarding this particular stock, is it something new that we missed and still got the same runway of growth, or is all the growth sort of front-loaded and the stock price is reflecting that. You mentioned that relationship between GDP and market caps. You said the GDP of India is what,$4 trillion and change, something like that? Some of them. I've done this before where I've compared emerging market stock markets, their market capitalization to individual companies. So India's stock market must be also in that range, around$3 or$4 trillion total?