DILEMMA FOR A LOCKED DOWN PLANET: TO SAVE LIVES OR LIVELIHOODS
As
the pandemic ravaged through the public health infra of all economies with
equal vigor, the economists and healthcare specialists are at loggerheads. The
bone of contention being when to re-open the shuttered economy. Confusion
prevails - if one is too early, there can be recurrence and a 2nd/3rd wave of
infections and if one is too late, then there will be permanent loss of GDP.
Pre-corona crisis, the global economy was recuperating slowly from the US-China
trade war only to hit a wall suddenly. Now it is on a ventilator and breathing
life back is going to be an arduous task. A L-shaped recovery will be damaging
compared to a V / U-shaped one. The ILO has warned that 400 mn people may be at
risk of falling into poverty. Nobody knows if we are the end of the dark
tunnel yet, but we must be realistic and Keep Faith in the Human Spirit to
Always Triumph. A New World Order is already in the making and all of us will
have to adapt to a new normal unlike any before. We must emerge positive when
the doors re-open as OPTIMISM IS EVEN MORE CONTAGIOUS
DMs have seen higher contribution to cases, deaths with muchhigher fatality rate
Source: Bloomberg
GLOBAL EQUITIES: RESURGENCE OF THE BULLS; TACTICALLY OW ON EMs
You
win some and you lose some. Who would know it better than the bears? They were
blown to smithereens by the swiftest bear market rally in history. As the skies were stopped from falling by the rushed fiscal and
monetary bailouts, investors believed apocalypse has been averted. We believe
it has been kicked down the road and the rally lacked strong conviction. The
other stimulants were ‘flattening of the curves’ and partial lifting of
lockdowns in US and Europe. The booster shot was endorsement of antiviral
agent Remdesivir as an effective Covid treatment. Corporates in their
quarterly updates have refrained from future guidance and have cut back on dividend
payouts, capex and buybacks to conserve cash. Also, many have accessed
unutilized credit lines fully and piled up further debt to meet fixed costs in
absence of revenues causing rating agencies to quickly resort to downgrades. US
Initial jobless claims hit 30 million over last 6 weeks i.e. 20% of US work
force is now unemployed. Global GDP is now expected to de-grow by 2-4% with
downside risks. US/EU/China reported negative 4.8%/3.8%/6.8% 1Q20 GDP growth
YoY.
GDP impact to be higher for DMs -6% vs -1% for EM; whereas EMs to also see sharper bounce back to 7% vs 5% for DMs, led by Asia
Source: IMF; EMDE: Emerging Markets and Developing Economies
Not just valuations are favourable, but economic & trade activity is also expected to rebound better in EMs. Fiscal response from DMs is at the cost of extremely imprudent fiscal deficits and debt-to-GDP levels. Hence, we remain Overweight on EMs against the Strategic Allocation to EM.
GLOBAL FIXED INCOME: CTRL+P - PRINTING PRESS ARE RUMBLING
Debt
markets also rallied as US Fed expressed willingness to intervene in credit
markets and buy IG corporate bonds and HY bonds too. ECB continued its QE program and put emphasis on
purchases of G-Secs of low-rated countries like Italy and Spain. It eased
collateral requirements to include HY securities in order to support lending to
SMEs. The markets seem intent on ignoring the US Fed chief’s warning about the
“crisis weighing heavily on economic activity, employment and inflation in
near-term and posing considerable risks to economic outlook over the medium
term”. Central Banks’ response has been dramatic in both size and speed as
they have committed to do ‘whatever-it-takes’ and use the ‘full range of tools’
to pull the economy out of this bottomless pit. So, what if the balance sheet
bulges.
DMs have doled out better fiscal and monetary bailouts than EMs; India has still not announced its much expected 2nd fiscal package
Source: IMF; DMs in Purple and EMs in Green, India in Orange
GLOBAL COMMODITIES: TURMOIL IN OIL; STAY OVERWEIGHT ON GOLD
Debt
markets also rallied as US Fed expressed willingness to intervene in credit
markets and buy IG corporate bonds and HY bonds too. ECB continued its QE program and put emphasis on
purchases of G-Secs of low-rated countries like Italy and Spain. It eased
collateral requirements to include HY securities in order to support lending to
SMEs. The markets seem intent on ignoring the US Fed chief’s warning about the
“crisis weighing heavily on economic activity, employment and inflation in
near-term and posing considerable risks to economic outlook over the medium
term”. Central Banks’ response has been dramatic in both size and speed as
they have committed to do ‘whatever-it-takes’ and use the ‘full range of tools’
to pull the economy out of this bottomless pit. So, what if the balance sheet
bulges.
Unique correlation structure with Equity – better of both worlds
Source: World Gold Council
INDIA MACRO: RIGS AND RAGS WONT HELP WHEN A BIG BANG IS NEEDED
The
much-awaited 2nd fiscal package from the Govt. is turning out to be
a story of “too little, too late”. It
makes one wonder if the Govt. is even completely aware of the gravity of the
disruption to millions of households and MSME incomes with the economy now
being pushed into Lockdown 3.0. 49% of the labour force in India is
self-employed with another 25% in casual employment in informal economy.
Government’s strategy think-tank Niti Aayog (erstwhile Planning Commission) has
spelt out an eerie negative 2-3% GDP growth for FY21 if shutdowns continue till
mid-May. This rises to an unfathomable negative 8-10% if more such
lockdowns occur in 2Q/4QFY21 due to virus resurgence. A substantial fiscal
stimulus of 5% of GDP is a need of the hour to mitigate the regressive economic
impact of healthcare crisis. Ex-Governor of RBI Dr. Rangarajan correctly
highlighted that the fundamental principal of war finance is not to be obsessed
with fiscal deficit as long as the bounds are being broken for good reason.
67% of GDP to be impacted if lockdown extended till mid-May with Construction/Logistics/Retail biggest contributors
Source: Niti Aayog
8-core
industries index has come in at -6.5% YoY for Mar-20 with all components in
contraction zone except for Coal. Apr-20 Manufacturing PMI has hit a
record-low of 27.4 vs 51.8 MoM. Auto OEMs have recorded zero domestic sales
for Apri-20 as production was fully stopped. Even FMCG companies have reported
volume de-growth for 4QFY20 indicating economy was already slowing down before
we hit the pandemic air-pocket.
Limited Greens – zones re-opened account for a small fraction of GDP
Source: Axis Bank
But everything is not lost yet. We have managed to contain the virus from growing exponentially to dangerous estimates of 0.5-1.0 million infections. IMD has forecasted Normal monsoon for 2020 which is glimmer of hope. And green zones have been re-opened which has raised downbeat spirits
Vision to See, Courage to Buy and Patience to Hold – Thomas Phelps
INDIA EQUITIES: FEAR OF MISSING OUT; STAY OW EQUITY AND LARGE CAPS
It
seems investors have thrown all caution to the winds in a desperation to get
the bottom right and not miss out the ensuing rally. Macro continues to be
putrid and the micro is now reflecting that somber reality. The management
commentary is full of bleak uncertain scenarios with slower recovery to
normalcy. To stop and start an economy is not as easy as pushing a button. The
whole supply chain must survive and revive for the production to re-start and
reach the end-consumer. Many sectors (Financials, Travel and Leisure, Hotels,
Aviation, Entertainment, Real Estate, Retail, Metals, Capital Goods) are going
to be hurt massively with small-mid sized firms therein decimated. So, focus
on resilient companies who thrived in past crisis periods and emerged as
stronger market leaders. Not to forget - cash would be rewarded the most.
Mkt. Cap / GDP went down to 52% at Mar-end equal to Dec 08 GFC bottom and shy of the Aug-13 bottom of 49%; LTA 73%
Source: Bloomberg
Though, volatility has fallen from extreme levels, future is still hazy, and one needs to remain prudent. We find support in Valuations to conclude our tactical OW view on Equity vs Bonds though liquidity has cooled off MoM. Momentum favours Large Caps over Mid Caps for near-term positioning.
INDIA FIXED INCOME: RBI TO THE RESCUE - AGAIN; PREFER CORPS / SHORT
Despite the liquidity bonanza unleashed by the RBI the banks remain risk-phobic and continue to park excess liquidity (now at ~Rs.7 lakh cr) at a meagre 3.75% reverse repo rate. Multiple LTROs – targeted or not – have failed to whip the risk appetite with some auctions even failing to receive bids. Almost all liquidity has flowed to corporates who really are not in dire need. ICRA analysis showed A-rated and better firms formed a higher 70% of the moratoriums availed in the system with larger firms constituting ~90%. The winding-up of 6 debt schemes by Franklin Templeton (one of the largest MF in India) did not help the RBI’s cause either. Rather RBI had to extend another Rs.50000cr special liquidity facility for MFs to plug the huge debt outflows
Consol. FD to shoot 2x to 12% vs budgeted 6% as Govt. faces higher exp. but much lower tax/disinvestment proceeds
Source: CEIC, UBS estimates
With
the pressure for more fiscal measures mounting on the Govt. the borrowings must
be revised upwards, leading to higher 10Yr G-Sec supply. Thus, yields
will likely remain elevated and at widened spreads to policy rates. Steepening
of the yield curve makes the long-end attractive but given the broader macro we
prefer to remain Short. The rising credit default risks does not lend comfort
to enter Credit Risk Funds either despite the attractive yields. Banking &
PSU Bond Funds and Bharat Bond ETFs for 3-plus year allocations and Overnight
Funds for liquidity management are preferred.
CURRENCY:
RUPEE STANDING OUT; STAY NEUTRAL ON USD-INR
The INR held on well against the USD by weakening only marginally c.7% relative to past crisis periods and EM peers. The robust macro in terms of record-high FX reserves, lower dependence on exports in GDP, better current account balance which is moving towards surplus zone due to benefits from lower Oil imports, lower and down-trending external debt-to-GDP and RBI’s anchoring has helped the INR stand strong. Fiscal expansion can put pressure on INR only to be offset by US Fed’s infinite QE. RBI’s policy reversal on offshore NDFs could also lower volatility. We stay Neutral on USD vs INR
All EM currencies have fallen as much as during 2013 taper tantrum, except for a few like India
TAA VIEWS & PERFORMANCE
Source: Bloomberg. Assuming a 6% annualized yield for cash.
GLOBAL ASSET PERFORMANCE SNAPSHOT
Source: Bloomberg Equity/Fixed Income Returns/Yields in local currencies. Commodities in USD. Numbers for Fixed Income are Yields. As of 30-Apr-20.
ROUTES TO MARKETS: MODEL ALLOCATIONS
Glossary:
Covid-19: Coronavirus Disease 2019; US: United States; ILO: International Labor Organization; GDP: Gross Domestic Product; FD: Fiscal Deficit; EM: Emerging Market; DM: Developed Market; UK: United Kingdom; EU: European Union; YoY: Year on Year; ECB: European Central Bank; OW: Overweight; QE: Quantitative Easing; IG: Investment Grade; HY: High Yield; SME: Small & Medium Enterprises; ASEAN: Association of Southeast Asian Nations; US Fed: United States Federal Reserve Bank; IMF: International Monetary Fund; WTI: West Texas Intermediate; PMI: Purchasing Managers Index; OEM: Original Equipment Manufacturer; FMCG: Fast Moving Consumer Goods; IMD: Indian Meteorological Department; MoM: Month on Month; FX: Foreign Exchange; NDF: Non-Deliverable Forward; bps: basis points (100 bps = 1%); YTD: Year To Date;; TLTRO: Targeted Long Term Repo Operations; OMO: Open Market Operations; G-Sec: Govt. Security; PSU: Public Sector Unit; RBI: Reserve Bank of India; USD: United States Dollar; INR: Indian Rupee.