Indian ADRs to Buy, Sell

NEW YORK (TheStreet) -- As the second fastest growing economy, India presents a vast potential for overseas investments. U.S. investors can invest in India through American Depositary Receipts (ADRs). An upsurge in overseas investments recently drove the benchmark Sensex to around the 21,000 level for the first time since early 2008.

It is not the end of the road for investors who missed the Indian Equities rally -- Sensex up over 20% during the last six month -- without considering the recent correction of 8% from the present highs. Post-correction, it could be a good time to venture into Indian equities. The benchmark index is trading at 16 times one-year forward earnings and the International Monetary Fund foresees India's economy growing at 9.7% in 2010 and 8.4% in 2011, well above the estimated U.S. growth of 2.7% and 2.2%, respectively, for the same period. Robust macro fundamentals along with a benign inflation, which is estimated to spiral down from 13.2% in 2010 to 6.7% by 2012, is also good news.

The Indian market is looking attractive and global investors can accumulate quality stocks in the near term. We have identified a list of ADRs that appear lucrative after the present bout of correction. The three ADRs looking attractive are HDFC Bank ( HDB), ICICI Bank ( IBN), and Sterlite Industries ( SLT).

However, not every segment is looking attractive. We have identified some investments that are expensive, from where existing investors can pare respective exposure. The list includes MTNL ( MTE), Tata Communications ( TCL), and Infosys Technologies ( INFY).

Mahanagar Telephone Nigam (MTNL) is a state-owned telecom utility that provides fixed line and other services in Delhi and Mumbai. The telco is 56% owned by the government with approximately 3.5 million fixed lines in service.

MTNL posted a net loss of $135 million during 2010 second quarter against a marginal profit of around $5 million, attributable to higher staff expenses. Wage revisions implemented during the March quarter of 2010 were responsible for this loss. MTNL currently has 45,000 employees and spent 30% of its revenues during the last fiscal 2009-10 on employee wages.

Operating losses are not a new phenomena. The company has been running at a loss since 2007 and only interest income, on account of excess on its books, has helped MTNL to come into green in the past two years. However, MTNL has spent its excess cash pile for the enrollment of 3G and broadband services, which will not help its profitability going ahead.

Tata Communications (TataCom) is a provider of wholesale international voice services and leverages its solution capabilities across the global and pan India network to deliver managed solutions.

During the recent quarters, revenues jumped 8% on the back of growth in the international and national long distance calling segments. However, relentless pressure on pricing coupled with moderate volume growth plunged operating profits 18% year-over-year during the first half of fiscal 2010-11.

Overall, operating margins narrowed 350 basis points (bps) during the first six months of the year to 9.5%. Interest costs inched up 6% as total debt rose to $1.75 billion, as compared to $1.66 billion a year ago. Overall, net loss more than doubled to $112 million during this period.

The stress on wholesale voice business is expected to drive the company into losses for 2011 and 2012, similar to 2010. However, positive triggers like the sale of land bank and Tata Teleservices could offer some support.

Infosys Technologies (Infosys)is a global technology services company with diversified offerings across multiple verticals and service lines. The technology major has global delivery centers and the company's BPO recently acquired a 100% interest in McCamish Systems LLC., an Atlanta-based business process solutions provider.

Infosys Technologies posted revenue growth of 10.2%, the strongest in the past 3 years. Strong volumes, increased realization, and tailwinds from cross currency supported robust top-line performance. Operating margins rose 160 bps to 33.3% in the September quarter, compared to the prior quarter, owing to favorable currency movement and higher utilization.

The low December quarter guidance of 4.5% is due to more number of holidays and the slow decision-making process. Overall, analysts suggest that revision of the earlier 4-5% guidance to 24%-25% has already been factored in the markets with valuations not compelling enough. The stock is trading at 25 times its estimated 2011 earnings. Uncertainly in the macro environment, currency, and regulatory issues could pose challenges going forward.

Sterlite Industries is a subsidiary of Vedanta Resources, and is engaged in non-ferrous metals mining and power.

The expected improvement in zinc operations and power sales could drive the stock higher. The zinc environment is set to improve in the second half of 2011 fiscal (April-March), according to analysts.

On the operational front, production ramp up at Rampura Agucha and new smelters should boost operations, while improved water availability and ore quality are other positives. Experts expect zinc prices to escalate in the medium term.

Power sales are expected to increase with large capacities coming on-stream. The company would be selling merchant power from its BALCO division, expected to start operations from next year.

The first unit is expected to start commercial operations by December this year, while the second unit and third units will become operational by March 2011. With large capacities coming on line, raw material costs could be a concern, according to analysts. The stock is trading at 10 times its 2010-11 earnings.

HDFC Bank (HDFC) is an India-based banking company catering to business segments like retail and wholesale banking, and treasury operations.

HDFC Bank had maintained an earnings growth of around 30% over the last 3 years. The bankâ¿¿s balance sheet growth was about 30% during the last five years. However, asset growth could taper to about 25% on a higher base over the next couple of years. An improvement in return ratios and sustaining net profit growth at 28%-32% would be feasible, according to analysts.

The bank has successfully increased the proportion of corporate segment as well as the share of non-secured retail, which could be margin dilutive. Besides, HDFC is focusing on the rural segment, expecting higher returns on assets in the long term. High capitalization and improved lending practices have helped the bank to curtail bad loans. Going ahead, as a percentage of loans, bad loans would stand at 1.3%-1.4%, say analysts. The stock is trading at 3.7 times its 2011-12 estimated book.

ICICI Bank (ICICI) is engaged in providing a range of banking and financial services and operates in segments like retail and wholesale banking, treasury, and other banking divisions.

During the September quarter, net profit grew 20% year-over-year, while net interest income surged by 9%, attributable to a 40% year-over-year decline in provisioning due to lower incremental slippages.

During the present quarter, loan book expanded 5% sequentially with growth coming from domestic corporate and agricultural loans. The management expects loan book to grow at 20% for the full year.

Margins have improved 10 bps to 2.6% sequentially due to enhancement in low-cost deposits. The bank is expected to maintain margins of 2.5%-2.6% for the full year. Net non-performing loans narrowed 15 bps to 1.6% and provision coverage improved to 69% for the quarter. ICICI is trading at 2.2 times its 2011 estimated book.

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