EMs may recover as commodities stabilise & capital fight halts

EMs may recover as commodities stabilise & capital fight halts
EMs may recover as commodities stabilise & capital fight halts

Global growth is likely to take a breather in 2019, led by the slowing US economic activity, which could compel the Federal Reserve to take a pause in further tightening towards the later part of 2019, said Rajesh Cheruvu, chief investment officer, WGC Wealth, in an interview with Sangeetha G. After recent sell-off, emerging market valuations are attractive and earnings too show signs of recovery, he added. Excerpts:

The Indian market has been volatile. How should an investor tread through this situation?

Markets are providing the much-awaited opportunity to investors. After demonetisation, the market moved to new highs across market capitalisations with the hope of financialisation. Hence, valuations were quite rich for a long time. Now, the domestic market and valuations have seen reasonable correction, along with the global equity market.

Fiscal reforms implemented over the past 4 years towards fo?r?m?alisation of economy through tax reforms, real estate regulations and the ongoing balance sheet deleveraging of banks and firms through time-bound insolvency proceedings augur well for growth and sustained demand recovery. This also bodes well for improvement of the corporate earnings cycle and stock valuations in the quarters to come. Investors should build their portfolios with stocks having quality balance sheets, franchises and those run by able managements.

In the current situation, what should be the criteria for choosing sectors and firms to invest?

India being mostly an inward-lo?oking economy, led by favourable demographics, domestic consu?mption story is here to stay as a secular theme. While valuations of the consumption sector continue to be rich, the ongoing currency depreciation and trade restrictions on China by the US, offers opportunity to invest in sel?e?ct Indian companies. Chemicals, API manufacturers, auto ancillaries and textile segments are likely to benefit from the ongoing developments apart from the traditional IT and pharma.

What’s your take on sell-offs in the global market? Is this a beginning of a bear market in key equity markets, including the US?

It’s too early to call on bear markets as economic activity across the world and developed markets are still above average and don’t show significant fatigue. The US market has witnessed a decade-long bull-run, led by easy monet?ary conditions, gradual recovery of economic growth, subdued inflation and improving corporate fundamentals. Earlier, emerging markets also moved largely in ta?ndem with the US market. But the US Fed’s unwinding of unu?s?ual easy liquidity led to flight of capital, rising cost of capital and commodity inflation on which subsequently EMs sold off.

Economic activity in China is slowing with the ongoing deleveraging of its shadow banking system and trade restrictions by the US. We expect it to slow further as investment activity is slowing, cost arbitrage waning, though co?nsumption is improving but in a measured manner. After Decem?ber, market participants expect ECB to consider unwinding of its bond purchases in a gradual ma?nner. But we expect ECB to take more time before starting to unwind since economic activity in Europe is still fragile and inflation is below the targets.

Global growth is likely to take a breather in 2019, led by slowing US economic activity, which cou?ld compel the Fed to take a pause in further tightening towards the later part of 2019. After recent sell-off, EM valuat?i?ons are attractive and earnings too show signs of recovery. EMs activity could see recovery as co?mmodity prices stabilise and capital fight halts.

How will crude oil and rupee pressure impact the Indian market in an election year?

India being a net importer of ene?rgy, would continue to see its tr?ade deficit and macro fundamentals being impacted. But the fisc?al measures on other large impo?rts like gold and electronics may ease pressure. Recent depreciation of the rupee should also help exports regain competitiveness over regional peers. It is likely to motivate importers to shift to domestic supplies instead of partnering with China. Ongoing tariff war too will help increase India’s market share in global trade. We are witnessing capex announcements by companies in a bid to benefit from this opportunity.

In case of the rupee, the ongoing depreciation primarily stems from the pent-up value differential between the dollar and regio?n?al peers over the past 4 ye?a?rs. Being an EM currency, depreciation is a given due to inflation differentials between markets. But too sharp a fall in short time with heightened volatility is a co?ncern. The ongoing capital outflows, str?ong dollar and commodity inflation could take the rupee to 75-76 in the short-term. On the other hand, potential stability in en?v?i?ronment combi?ned with impe?n?d?ing policy steps may provide stability below 72 in medium-term.

How is the market reacting to the IL&FS issue? Will the NBFC crisis deepen in coming days? Is it an opportunity to buy them?

After-effects of the IL&FS default and lack of timely policy interve?ntions led to sentiment worsening towards NBFCs. Retail and institutional investors’ redemptions from mutual funds due to risk aversion has compounded the situation. Further, worries of asset liability mismatches drove sharp fall in stock prices. Imp?r?o?v?ement in liquidity conditions and return of banks’ risk appetite may stabilise the mart. Since NBFCs are large lenders to MSMEs and retail borrowers, we expect policymakers to provide the needed su?pport at the right time.

In terms of attractiveness, mo?st NBFCs need to recalibrate the?ir funding models to lessen reli?a?nce on short-term borrowing in the CP markets. It could comp?r?e?ss their interest rate margins, and smaller or standalone players co?uld suffer more in this process. Hence, valuations of the sector may see de-rating in the near- to medium-term till stability emerg?es in earnings & growth outlook.

How do you evaluate Indian stocks’ valuation? Are we going to see some more correction?

Indian equities have given up ga?ins made during the year till Se?p?tember. Mid- and small-caps ha?ve been under pressure since Ma?rch. Valuations are becoming reasonable for both large- and mid-caps. The ongoing market correction has given opportunity to investors waiting on the sidelines for some time now. Earnings ha?ve been showing signs of impr?o?v?ement and domestic inflows continue to be healthy. Foreign flows have become less relevant in equ?ities, over the past 4 years. Given the policy uncertainty ahead of polls, the market could continue to be range-bound at least till sta?te polls results get announced in the first week of December.

What’s your take on the ongoing earnings season?

So far most earnings data have largely been in line with expectations. We need to wait for the season to get over by middle of this month for getting a holistic view.