Record IPOs, muted returns: The other side of India’s primary market boom

At UBS, we pay close attention to capital-raising activity in emerging market (EM) public equities for a simple reason. Over the past two decades, the MSCI EM index has significantly underperformed US equities despite far stronger economic growth.

Nominal GDP in EM economies has expanded roughly fivefold over the past 20 years, compared with about 2.5 times in the US. Corporate profits have also grown faster in EM, rising about 3.3 times over the period. Yet this growth has failed to translate into shareholder returns: earnings per share in emerging markets have increased only 1.3 times, compared with 2.7 times in the US. In effect, much of the underlying growth has been diluted away before it reaches public shareholders.

This dilution happens for two broad reasons. The first is capital inefficiency. Listed companies in EM frequently raise funds and deploy them into businesses that generate weak returns. US companies, by contrast, have delivered far higher returns on invested capital, allowing them to sustain growth with relatively little new capital. Two decades ago, a $100 investment in US companies would have returned $72 to shareholders while the businesses themselves tripled in size. EM companies, in contrast, required an additional $109 of capital over the same period yet delivered far more modest growth.

The gap will narrow only if EM companies build stronger, innovative businesses with durable competitive advantages and higher returns on capital. Some Asian firms tied to technology supply chains may benefit from the surge in capital spending by US hyperscalers, but India is not yet part of that story; the listed market’s return on invested capital has actually trailed broader EM averages in recent years.

The second source of dilution comes from the steady supply of new companies entering the market. A large pipeline of IPOs, often priced at elevated valuations, can absorb capital and leave little upside for new investors. That is why we study IPO trends closely. Looking at more than 9,300 IPOs across emerging markets over the past decade, last year offered some signs of improvement for public market investors.

Across emerging markets, it was actually a relatively muted year for IPO fundraising. In large markets such as China and Korea, proceeds were down 60-80% from their peak years despite strong equity rallies over the past 18 months. Tighter regulatory oversight appears to have played a role, with market regulators placing greater emphasis on the quality and pace of new listings.

For public shareholders, this kind of restraint can be healthy. IPOs are essential for giving investors access to new businesses in rapidly evolving industries, but an uncontrolled surge in supply can strain public markets.

Pricing also looked more balanced. Assuming newly listed stocks reached fair value within three months, investors in emerging market IPOs generated weighted average returns of about 53%, the second-best year in a decade. Yet the dispersion was wide. The median IPO delivered only a 10% gain, meaning investors still had to be selective about which offerings to back.

India played an important role in shaping these overall trends. The country accounted for nearly 40% of all emerging market IPOs last year, yet the median return from Indian listings was effectively zero. Excluding India, the median IPO return across emerging markets was closer to 22%. In other words, Indian IPOs appear to be priced almost perfectly from the outset, leaving little upside for new investors.

There is another difference in how the money raised through IPOs is used. Across emerging markets excluding India, roughly 92% of proceeds typically go into the company’s balance sheet, either to fund expansion or reduce debt. In India, however, more than half the funds raised go to existing shareholders selling down their stakes. It is also common for companies to return to the market within a few years of listing to raise fresh capital to fund growth or strengthen their balance sheets.

Much of the discussion around India’s equity market in recent months has focused on persistent foreign investor outflows, which totalled about $19 billion last year. But a less discussed dynamic is the scale of domestic supply. Including IPOs and follow-on offerings, capital raised by Indian companies and promoters amounted to nearly 80% of the money flowing into equities through systematic investment plans.

In other words, while investors have been steadily putting money into the market, a significant share of that capital has been absorbed by companies and promoters raising funds.

Sunil Tirumalai, Head of Emerging Markets & Asia Equity Strategy, UBS.