Stars of India and Pakistan glow brightly in troubled Asian skies

India has long been regarded as a promised land for managers of emerging markets funds. And these days, many are increasing their stakes in companies in Bangalore and Mumbai to take advantage of the recent correction in the Indian stock market – which has lost more than a quarter of its value since the start of the year.

But neighbouring Pakistan is also attracting attention as investors are keen to bet on a cheaper satellite market that has yet to be tapped by mainstream investors.

This month’s launch of the Pakistan Opportunities fund by Dalton Strategic Partnership and KASB funds, a local Merrill Lynch affiliate, underscores the budding interest in buying into the Karachi stock market, in spite of a deteriorating local economy that this week led the Pakistani government to seek the deferral of $2bn-worth of oil payments to Saudi Arabia. The fund, which will debut on June 19, is the first Luxembourg-listed UCITs fund to invest exclusively in Pakistani equities.

“In looking at the Pakistan market today, we see many similarities with the Indian economy and stock market five years ago, before it enjoyed its strong rally,” says David Graham, a partner with Dalton. “The Pakistan market has been described as buying India at half price.”

In the short-term, the returns offered by both countries have not been such good value, with the Bombay stock exchange down 30 per cent since January and Karachi’s reporting a fall of 12.7 per cent.

Indian investments, in particular, have come under attack from some analysts, as they – along with Chinese stocks – have dragged down the recent performance of many pan-Asian funds. “From an investor’s standpoint, the recent downturn in the Indian and Chinese markets shows that they cannot be viewed as safe havens from the travails of the world economy,” wrote Ash Kumar, a Morningstar analyst, in a recent note.

But results in the long-term from both Pakistan and India remain enticing. In the past six years, the Bombay Stock Exchange is up 464.8 per cent and Karachi’s has risen even more, reporting a jump of 597 per cent.

“As a long-term investor, these are the times when I want to invest – when other people are hesitant,” says Arun Mehra, manager of Fidelity’s India Focus fund. “As international markets begin to settle and signal the end of the down market, India should stabilise.”

Managers are keen to invest in India’s banking, auto, consumer and mid-cap sectors as well as Pakistani energy, banking, fertiliser and cement companies.

Indian companies favoured by Sam Mahtani, manager of F&C’s Indian investment company, include Larsen & Toubro, the construction group now trading on 25 times next year’s earnings; Hindustan Unilever, which is trading on 25 times forward earnings; the power plant group BHEL on 19 times forward earnings; and ITC, the giant conglomerate that provides much of the country’s tobacco, and trades on 22 times next year’s earnings.

The management team at KASB funds in Karachi backs National Bank of Pakistan, trading on 7.4 times next year’s earnings; Oil and Gas Development on 10 times future earnings; Pakistan Petroleum on 9.7 times next year’s earnings; and Fauji Fertiliser Bin Qas, a fertiliser group trading on 9.3 times forward earnings.

“In Pakistan, there are over 600 listed companies you can play,” reports Naz Kahn, chief executive of KASB funds. “Just six or seven years ago, this was a market that was untouched by overseas investors. But you have a number of favourable trends which are steadying the country’s economy and enticing investors. The oil exploration story is one. The millions of Pakistanis living in the Middle East and sending money home is another. The low level of consumer debt is a third.”

Pakistani stocks are cheaper, on most valuation measures, than those in India. And in spite of political instability, the country’s fundamentals remain fairly strong. Oil and gas stocks look attractive and Pakistani banks have not been affected directly by the credit crisis. Another benefit is that Pakistan – already the world’s ninth-largest producer of wheat and fifth-biggest for sugar cane – is looking to increase its agricultural exports.

Still, India’s long-term story is just as compelling. There are concerns over inflation rising to 7.6 per cent, and the danger that rising food and fuel prices will reverse the poverty reduction that has benefited millions of Indians. But 8 per cent annualised growth in gross domestic product is boosting incomes in New Delhi and Bangalore. And rural areas are undergoing a transformation, too, due to government investment in infrastructure.

So asset managers are still rushing to launch Indian funds – with New Star and Jupiter being two of the latest. New Star’s Indian equity fund, which launches this Monday is to be managed by Tata Asset Management, part of the prominent Tata group. The minimum investment required is £3,500.