Brexit is a certainty – happening on 29 Mar 2019 – but ironically, the British MPs still can’t agree on how to go about this. As a result, the GBP weakened further in the month that went by as uncertainty on exit modalities mounted. What’s more, the IMF downgrading world growth by -0.2% points (now 3.5% vs. prior expectations of 3.7% until Oct-18) didn’t help market nervousness.
GLOBAL MARKETS COMMENTARY
Brexit is a certainty – happening on 29 Mar 2019 – but ironically, the British MPs still can’t agree on how to go about this. As a result, the GBP weakened further in the month that went by as uncertainty on exit modalities mounted. What’s more, the IMF downgrading world growth by -0.2% points (now 3.5% vs. prior expectations of 3.7% until Oct-18) didn’t help market nervousness.
IMF has slashed global growth outlook for 2019 in the last 3m by -0.2% points
Source: IMF
China has recently been teetering quite precariously and its creaking noises can rattle some nerves.
China: IIP and Real GDP Growth (RHS) has crashed recently
Source: Bloomberg
China manufacturing PMI slid into contractionary phase for the first time after ~17 months
Source: Bloomberg
The kind of Government stimuli being announced day- after-day ranging from Chinese OMOs (styled after RBI’s own liquidity injections), supporting various sectors to revive growth, going after shadow-banking etc. makes one wonder why a huge and “emerging” economy needs fiscal stimulus akin to those used in “developed” worlds. For reference: China Manufacturing PMI plunging below 50 recently led to the PBOC infusing a record $83bn in a single day. This is the largest ever, by any Central Bank in a day with even the ECB’s bond-buying scheme paling in comparison at ~$35bn PER MONTH.
India stands relatively insulated against these world vagaries. Indian assets enjoy one of the lowest correlations vs. world counter-parts thus making a strong case for global investors to include some India allocation in a bid to lower portfolio volatilities.
Correlation of India lowest vs. World in equities & debt
Source: Bloomberg
EMERGING VS. DEVELOPED MARKETS: NEUTRAL
Net-net, weak DM economies per IMF and a creaking China broadly make our stance neutral between Emerging and Developed economies.
INDIAN MARKETS COMMENTARY
The macro conditions have remained mixed to slightly positive in the month gone by. Hiring activity per Naukri remains healthy on the back of the defensive IT sector showing strong employment trends, though recent reports have been flying around of India’s unemployment rising to a 45-year high during FY18.
Naukri job Index: A rise of 8% in hiring activity in Dec-18 led by mainly IT sector
Source: Naukri
Projects under implementation have also shown an uptick mainly led by Private Sector as firm capacity utilizations are nearing highs. And this is during pre-election times when supposedly activity should be in a lull. One can imagine the actual pick-up once the election results are out and political clarity at the top emerges.
Projects Under Implementation have shown an uptick Mainly led by Private Sector
Source: CMIE
Auto volumes have fallen into doldrums recently across firstly, all types of vehicles and secondly across all world regions (read: China, Germany) as well – begging the “when” question of the inevitable EV rise. However, most recent Jan-19 numbers indicate some kind of a bottoming out. From PV-focused Maruti, to CV-focused Ashok Leyland, companies have reported some form of m-o-m recovery highlighting light at the end of the tunnel.
Auto volumes cause of concern last couple of months
Source: Reuters
The Interim Budget was smartly crafted and balanced fiscal pragmatism and populism. The Farm Income Support program falling in the former and the populist income tax sops in the latter though the “devil in the details” added the “smart” finishing touches. Sector- wise: Farm equipment, 2-wheeler, tractors and agriculture stocks should benefit from the farm package despite it undershooting expectations. FMCG and Consumer Durable stocks should also likely gain from the fillip to consumption via income tax reduction.
GST Collections and Favourable Fiscal Deficit Trend Despite shortfalls in former
Source: CMIE, Bloomberg
Although, headline inflation continues to be below RBI expectations, focus of policy makers might shift to Core inflation. It has remained stubbornly high now and begs the question of whether the new “RBI 2.0” of Shaktikanta Das would go after Core targeting rather than headline in the MPC on 7-Feb-19. Also, relatively narrowed spreads of Indian bonds against DM bonds could limit change in policy rates soon, while market participants expecting change in policy rate stance back to Neutral in coming months.
Stubbornly High Core, Though RBI has managed Headline Inflation
Source: Bloomberg
EQUITY PERSPECTIVES
Earnings – the crux of bottom-up stuff – paint a bright picture overall for domestic equities. The predominant theme being seen this quarter is spiking volume growth – be it the evergreen FMCG companies or even the IT bell weathers – with operating margins coming in weaker. Y- o-Y, large caps have shown stronger top-lines and mid- caps have shown operating/EBIT (see earnings snap shot towards end of document). Sectorally, banks have seen better profitability as GNPAs finally appear tamed thanks to the various GOI/RBI initiatives.
GNPL% in banking being addressed successfully
Source: RBI
Valuation-wise, the NSE100 CAPE remains elevated and consolidating at +1SD levels. What adds more concern here is the fact that NSE100/large caps are trading at a premium to mid-caps on forward multiples – making the case for mid-caps relatively more attractive.
BONDS TAKE A BACK SEAT AGAINST EQUITIES, MIDCAPS STAND OUT WITHIN EQUITIES
At a higher level, bonds score over equities in terms of valuations with the EY/BY ratio rebounding from -1SD levels, though stronger liquidity in the form of better equity inflows and better earnings profile makes bonds take a back-seat vs. equities.
Bonds remain attractive, rebounding from -1SD levels
Source: Bloomberg
The macro remains mixed with hiring trends picking up per Naukri, private projects under implementation picking up, capacity utilizations near highs, auto volumes showing tiny yet cheerful uptick m-o-m, the Interim Budget maintaining a tactful tight rope walk and Core Inflation stubbornly and worryingly remaining high. Earnings remains the bright spot and tilts the scale towards equities over bonds. Valuations tilt the scale towards mid-caps as future growth outlook makes them relatively more attractive.
Large Caps Costly in NTM
Source: Bloomberg
BONDS TAKE A BACK SEAT AGAINST EQUITIES, MIDCAPS STAND OUT WITHIN EQUITIES
FAVOUR CORP. BONDS & SHORT END OF CURVE
Spreads between 10Y Corps and 10Y G-Sec appears quite elevated compared to historical averages making the former relatively more attractive.
G-Sec vs. Corporate Bonds (AAA): Spreads widened at the long end, partly reflection of Current Credit Outlook
Source: Bloomberg
The 10Y-5Y as well as the 10Y-1Y spreads paint a positive case for the short end of the curve as they languish below long-term averages. Given the current fiscal picture and ongoing trust deficit towards high yielding debt and unfavourable risk-return trade off, we favour high quality corporate and short-term bonds/funds. RBI has been infusing liquidity to maintain systemic liquidity conditions at neutral levels, this augurs well for short term yields.
Currency: Neutral between USD and INR
Inherently there will always be an innate depreciation bias of the INR vs. the USD courtesy the inflation differential between high growth India and lower growth U.S. But a watch over certain key parameters softens our stance against perennial INR weakening and we turn neutral.
Firstly, remittances have picked up sharply in the last few months and coupled with the lowering of India’s external debt the two hand-in-hand spell a positive outlook for the INR which should counter some of the in-built depreciation bias of the former vs. the green-back.
Remittances have picked up sharply
Source: RBI, Bloomberg
Despite Lowering of External Debt, INR Weakened
Source: Bloomberg
Thirdly, tourist traffic has also been in a cyclical uptrend in the latest few months which further strengthens our case of turning neutral between INR and USD. Finally, U.S. growth concerns could force the FED to pause rates, leading to a fall in the greenback. Sovereign 10Y yield differentials between the U.S. and DMs has reached highs begging the question should U.S. yields soften, then a rotation of capital away from the U.S. could weaken the dollar.
Tourist Traffic in India Strengthening in Upcycle
Source: Bloomberg
Sovereign 10Y yield differential between U.S. and DMs has reached highs and should moderate down
Source: Bloomberg
Gold vs. Cash: Cash
While the dynamics of the Oil and Commodities super- cycles have changed in recent times (i.e. since 2009 after the Crash), the yellow/black gold ratio remains alarmingly elevated.
Gold vs. Oil Ratio continues to rise above 1SD and should revert down, but depends on Oil dynamics
Source: Bloomberg
It seems likely that mere speculations regarding ongoing global growth concerns (courtesy the U.S. yield curve nearing inversion) and Brexit modalities has led to recent gold price rally. Any resolution to the U.S. – China trade restrictions, Brexit or Crude price fluctuations could once again see all gains erased in Gold and hence, we continue to favour Cash.
Gold Demand Driving Prices Recently
Source: Bloomberg
Earnings Summary, YoY (Q3FY19)
Earnings Summary, QoQ (Q3FY19)
Ace Equity, Bloomberg
Asset Pair Summary
