A sustained yuan devaluation could be a positive for India from inflation point of view, building a stronger case for interest rate cuts, says Saumil Shah, MD & Head (Equity Sales Trading), Bank of America Merrill Lynch, in an interview with Devangi Gandhi. Excerpts:
Market volatility has gone up in the last two months. How do you see the Indian market in terms of attractiveness?
Foreigners have purchased shares worth $7 billion year-to-day versus $15 billion last year. If one were to analyse the inflows, a substantial part is made up of block deals, rebalance flow and public offerings. The huge overweight of 500-bps-plus that India enjoyed in global emerging markets (GEM) funds has come down to 350 bps approximately as GEM funds have lightened their overweight on India. Since July, net inflows have been close to $740 million. As investors start looking at India from a macro perspective, the Iran deal has been welcomed and we expect crude prices to go down by $5-10 a barrel in the next 6-8 months as that supply starts coming in.
Commodity prices are under pressure on the back of China slowdown, which is very positive for India from the inflation point of view. According to me, a big positive for Indian market is the way gold is beaten down.
Of course, monsoon is a concern with the cumulative rainfall so far lagging 9% from the average. However, sowing has been encouraging and government has kept the prices under check by managing supply. The main concern at this point for the market is the pick-up in the economy and growth in earnings. Earnings growth in the recently concluded earnings season was disappointing with marginally negative earnings growth.
We expect the earnings to remain weak in the near term. This is likely to result in more earnings downgrades. Thus, the current valuation of 16.5 times is actually closer to 18-times forward. After this quarter, there will be adjustments for the fact that the economy hasn’t really picked up. The good thing is, with oil prices coming down, consumption is likely to pick up and government could likely meet the allocation towards infra spending — especially in roads and railways. So, one is very hopeful, towards beginning of the next year, we will start to see a pick-up.
The conclusion of the monsoon session where the government could not push through key Bills is seen as a concern by many…
It is definitely a major concern as it stalls the reform process. It is now very clear that it will take some more time for the government to get these Bills passed. So, if you ask me, currently markets are definitely are a bit on the higher side of the band. The positives are there in terms of a better macro picture, but what’s negative is earnings and growth have not picked up. The critical factor which the market and investors are looking for is when they start to see a pick-up in infra spending and key reform Bills, such as the GST and land Bill, get passed.
If you look at India against other countries, India stands out — in terms of external debt to GDP ratio, current account deficit. Fiscal deficit is under control and the rupee has managed to stand ground and outperform versus other EM currencies. Of course, what might change is emerging markets like Korea and Taiwan improve and their fundamentals start to improve and you may see a reverse flow of funds.
The other factor that is supporting the market is the interest of the domestic investor. Since last April, more than $10 billion has made its way into domestic mutual funds — this is a very big positive for the markets. At a time when gold prices are crashing, real estate as an investment is losing its popularity, fixed-income funds are facing lower rates going ahead, equities as an asset class definitely looks attractive. You can’t ignore domestic inflows anymore and it is a space that we need to watch more closely.
The momentum in foreign inflows has surely slowed down…
The net incremental flow has been quite low because GEM funds are already quite overweight on Indian market. Even as the overweight may have come down from over 500 bps to 350 bps, it still persists. The money which really hasn’t come is from the global funds. Emerging market fund that is well overweight on India and the impact of oil and commodity prices coming down is already factored in.
So, there’s no new catalyst for an EM fund in absence of earnings momentum to invest more in India. But it would still stay invested in India due to its relative attractiveness. The case is not there for global funds to come in as against an India or EM dedicated fund as they await triggers like growth and earnings recovery. Ultimately, this will happen as reforms take shape and infra spending picks up.
What impact could a sustained yuan devaluation can have on Indian markets and foreign flows?
Theoretically, yuan devaluation can have a negative impact on Indian exports. However, it also signals that all is not well in China and could lead to further softness in commodity prices which is beneficial for India. A sustained yuan devaluation thus could be positive for India from a Inflation point of view, building a stronger case for interest rate cuts. Also, typically if investors form a view that China will further devalue its currency then it might scare away the foreign flows from China into India. Although one will have to be careful and have a bottoms up approach. For example, textiles is a sector that competes with China and could be impacted negatively.
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