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Tax Reform Could Boost India ETFs

September 14, 2016 9:56 am
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Tax Reform Could Boost India ETFs

India is the world's largest democracy, Asia's third-largest economy and the second-largest country by population behind only China. With that heft comes complexity. In the case of India, plenty of complexity and bureaucratic red tape, which can be a burden in terms of garnering foreign direct investment (FDI).

Making Progress

To India's credit, it is taking steps to ameliorate that situation, including much-needed tax reforms that could, over the long-term, boost U.S.-listed India exchange-traded funds such as the WisdomTree India Earnings Fund (ETF) (NYSE: EPI).

Indian stocks are pricey compared to the MSCI Emerging Markets Index, but EPI helps ameliorate that problem by allocating more than half its weight to the quartile of Indian stocks with the lowest valuations.

EPI’s Advantage

The ETF's underlying index holds the most profitable Indian companies that are accessible to foreign investors. Profitability is the key there at a time when emerging markets earnings growth is, at best, anemic.

Related Link: Someone Sees More Upside For This India ETF

EPI is a potential beneficiary of India's recently passed Goods and Services Tax bill, arguably the country's most ambitious tax reform effort in recent memory.

“Overall, GST is India’s attempt to create the largest marketplace with standardized tax rates ever. It is also a reminder of the Modi government’s serious push for reforms to make it easier to do business in India. Most of India’s macro factors have improved recently, earnings of corporate India are steadily improving, and the central government is gradually pushing positive policy changes,” said WisdomTree in a note out Tuesday.

Some sectors, including healthcare, technology and telecom, will not be affected by the GST effort or will not feel much impact, good or bad. Those sectors combine for over 22 percent of EPI's weight.

However, the ETF's sector lineup does provide some leverage to groups that are expected to benefit, including manufacturing-related sectors.

“For manufacturing sectors and consumer durables, the effective tax rates come down, making end products cheaper. For example, the effective tax rates for automobiles come down from as high as 47 percent to around as low as of 20 percent,” adds WisdomTree. “Increased transportation, truck utilization, and interstate flow of materials plus the price differential between organized and unorganized mining/materials industries would have a positive impact on materials.”

Consumer sectors combine for about 16 percent of EPI's lineup, while industrial and materials names combine for another 11.5 percent. With overall taxes coming down, EPI's constituents could increase earnings, bolstering the long-term thesis for the ETF.

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