Dollar is a definite risk from trade, capital flow perspective: Vivek Singh Jamwal
Vivek Singh Jamwal, head of the risk and research practice at Stradegi Investment Management Consulting on the disconnect between decelerating economic growth and a booming market
India’s economic growth decelerated to 5.7% in the quarter ended June, the slowest pace in three years, but the BSE Sensex and the National Stock Exchange’s Nifty have continued to scale record highs.
The disconnect is due to the fact that the country’s economy is at a point where it is coming out of a down cycle and getting into the recovery mode, says Vivek Singh Jamwal, head of the risk and research practice at Stradegi Investment Management Consulting.
“As we get into the up cycle, benign oil prices, recapitalized banking system, unified GST (goods and services tax), better infrastructure, better access to financial services, cheaper mobile data access and a host of other factors can make this recovery a strong one. And that’s what the market is enthusiastic about,” he said. Edited excerpts:
Will India’s $32 billion bank bailout plan attract foreigners anew to its equities?
The bank bailout plan is very positive for the Indian economy. Public sector banks are short on capital, and that’s really hampering their own growth; but also, in turn, hampering the growth of the Indian economy. On top of that, we are still in the phase of cleaning the books, where there are non-performing assets that have not been completely recognized. A shortage of capital hampers this process as well, where the banks are not very forthcoming on recognizing problem assets on their books.
Banks have resorted to evergreening and kicking the can down the road; however, it is becoming harder now, given that regulator is stepping in and pushing the banks to accept reality. Hence, the timing of the bailout could not be better, as delays in the capital injection would have harmed both the banking system and the economy at large.
There are three main advantages that I see out of the bank capital injection. First, the banks will be able recognize more of the problem assets on their books, which they are not so keen to do now, given the shortage of capital. Second, banks will be able to start growing their books again and, third, the economy will benefit from an acceleration of credit growth. Businesses which are hampered now by the lack of capital will now be able to access credit and grow.
This year, Asian emerging markets are returning 33%, almost double the 17% for global markets. How long do you see the rally continuing? Big picture, what’s behind the rise of Asia’s stock markets?
To some extent, there is a catch-up to the DM (developed market) equity markets, which performed quite well over the past year. In addition, a lot of data points suggest and confirm that this recovery is indeed global. Whether that shows up in trade numbers, economic sentiment or in growth numbers, we are quite optimistic and hopeful that this is recovery that is sustainable over the near term. There are fears that some factors like geopolitical events might derail this recovery, but till now those risks have not blown up.
Asian stock markets should outpace the DM stocks over the next few decades at least, given that Asia is in a catch-up phase on the economic growth front. The world has been at peace for a prolonged period of time since the world wars, and countries are focusing on their own economic growth. The industrial revolution enabled the western world to raise productivity and per capita incomes; during the time the rest of the world was colonized. Hence, the gap between DM and EM (emerging markets) increased substantially, and now the opportunity is in closing this huge gap that has opened up. It is still a long way to go, and to a certain extent, the onus is on Asia as well to govern itself properly to take advantage of the opportunity that lies ahead. In India, for example, we do see that economic performance is becoming a KPI (key performance indicator) that public assesses the governments on, moving beyond caste and religion.
Most analysts are of the opinion that the three main risks to the outperformance of Asian equities are the dollar, oil and valuations—what is your take on each of these factors?
Well, oil and dollar are definitely risks to the economies in Asia. I would not say valuations are a big risk as of now. Given the export oriented growth of the Asian economies, dollar is a definite risk... not only from a trade flow, but also from a capital flow perspective. Given the easy liquidity since the global financial crisis, a higher dollar threatens a reversal of these flows, which not only affect the capital markets, but the trade flows as well.
Asia being a net energy importer gets hit when oil price spikes. Hence, the low oil price has given Asia the fiscal freedom to invest in their respective economies.
Valuations are a function of expectations, and as economic growth picks up steam, the goal posts on expectations keep changing. Hence, valuations are certainly not a near term risk.
The Indian economy grew at a three-year low of 5.7% in the June quarter even as the BSE Sensex and the Nifty touched new highs during this period. Where is the disconnect?
There are probably two reasons for the disconnect. First, that the economy is at a point where it is coming out of a down cycle and getting into the recovery mode. That has been delayed many times, with the note ban, and not a very well implemented GST regime. However, the economy now looks poised for an upturn, and there are multiple factors that support this upturn. As we get into the up cycle, benign oil prices, recapitalized banking system, unified GST, better infrastructure, better access to financial services, cheaper mobile data access and a host of other factors can make this recovery a strong one. And that’s what the market is enthusiastic about.
The second factor is the easy liquidity as well, which is pushing up asset prices. Domestic mutual fund inflows are an indication of the liquidity that is getting pumped into the secondary markets.
When you talk to clients here in Singapore, which are the sectors that you recommend they avoid with regard to India, and why?
I am very bullish on sectors that ride the India growth story. However, some sectors will be better than the others, companies with entrenched distribution, services sector, play on consumption, infrastructure are all good plays.
However, the IT (information technology) sector does not fall into that theme. It is dependent on the developed market tech spending to a large extent, and there are challenges with regards to how the DM world consumes IT.
First, onsite costs are going higher, SaaS (software as a service) models are disrupting the traditional application development core of the IT sector and, lastly, the financial services sector, which was traditionally the largest tech spender, is facing its own growth challenges in DM. Hence, I would be more cautious on IT.
The second sector which I would be cautious on would be metals. China...needs to slow down credit growth, which will translate into lower economic growth. One of the sectors that will be hit will be the metals sector. For example, China now consumes more than half of the world’s steel; hence, any slowdown in Chinese growth will mean less consumption of these metals, and a downward pressure on metal prices.
What do you make of India’s initial public offering (IPO) boom?
The IPO boom is good for India in many aspects. Firstly, it allows domestic secondary market liquidity to find other avenues of deployment, which relieves pressure on prices in the domestic equity markets. Secondly, it gives these companies another avenue to raise capital. Given that the banks are tight on capital, these companies may not get the funding that they desire from banks on the right terms. India has always been capital-constrained, and young Indian companies have now access to equity capital in a bull market. That helps them access this liquidity just when the economic cycle is becoming favourable.
Private equity has been on the comeback in India over the past three years. What have been the main drivers for this?
Private equity has been the hottest asset class worldwide now. It is more of the global trend rather than specific to India. Private equity is a very young asset class, where it probably started gaining some traction in the 1980s and now it has stood the test of time. Asset owners recognize the potential of this asset class. Private equity really aligns the management and ownership interests, and has been able to consistently deliver a 300-400 bps (basis points) outperformance over the equity markets.
The downside of such a fantastic track record is that the private equity markets are becoming hot, and every asset owner now wants a piece of the pie. That leads to again fantastic fund-raising for the private equity funds; for the new vintages, however the targets remain limited. That eventually will lead to overpaying by these funds and depressed long-term returns. India is part of this cycle as well; Indian focused PE funds now find it easier to raise capital.
In a recent report, KKR had pointed out that the digital payments market in China has surged to $9 trillion in size, up from just $15 billion in 2011 and now is 80X greater than that of the US. Which do you think will be other sectors where Asia will boast of massive advantages? Are global investors well-informed to ride this growth?
I think China has done a fantastic job at being focused in moving the economy across the value chain. Whether that is in hardware manufacturing, technology platforms, industrial manufacturing or innovative industries like solar or drone technology, Chinese firms have at times been at the forefront of innovation. And they’ve managed to do this in less than half a decade, at a scale of China’s size, and have looked at problems at their own stage of development.
Financial services was not available across the country, and they’ve let technology bridge that gap and enable economic growth even in the hinterlands.
The government has been supportive to Chinese business by giving them developmental grants, access to credit, land and electricity, so that innovative companies are not hampered by the lack of capital.
Asia will find the answers to its own challenges through leveraging technology and delivering sustainable change through innovation.
I think in areas like artificial intelligence, robotics and machine learning Asia can certainly be on par with the US, if not lead the way given that we have abundance of talent and the required technology infrastructure—both hardware and software—to develop these industries.
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