Jayachandran/Mint
Jayachandran/Mint

The world’s not coming to an end

It is said that many sovereign wealth funds have been selling their investments, which is logical

Prophesying about doomsday is a serious and regular business. Various prophets of doom have forecast the end of the world many times, but it doesn’t matter to them that the past prophecies have turned out to be hoaxes. And yet, there are people who predict the end of the world and followers who believe them.

I am not saying that nothing can destroy life on earth. All I am saying is that there is no reliable way of predicting if and when this will happen.

Similarly, there are economists and stock market predictors who keep forecasting recessions and bear markets. But unlike doomsday, we actually see recessions and market crashes. This does not mean they are any good; it just means that if you keep predicting recessions or bear markets, sooner or later you will turn out to be right. After all, even a broken clock shows the correct time twice a day. As Chinese philosopher and poet Lao Tzu said: “Those who have knowledge, don’t predict. Those who predict, don’t have knowledge." And yet, questions about our views on the macro situation, don’t stop. So leaving aside the predicting part, let us look at what the economic world looks like.

Let us start with oil. Crude oil prices have crashed steeply. We do not know where they will go, but there seems to be excess supply for now.

Do keep in mind that the crash has happened due to supply-side factors, and not that demand has collapsed. Many of those who predict a recession based on low oil prices overlook the fact that demand is where it was. It is, in fact, growing. So, as an oil importing country, what is there to not like about lower oil prices?

A Bloomberg article quoted Francisco Blanch of Bank of America Merrill Lynch as saying, “A sustained price plunge will push back $3 trillion a year from oil producers to global consumers, setting the stage for one of the largest transfers of wealth in human history."

India alone should be gaining, by some estimates, 5 trillion a year. This will be shared by the government (higher taxes), consumers (lower petrol and diesel prices) and companies (lower fuel cost).

It is said that many sovereign wealth funds have been selling their investments, which is logical. Norway, Saudi Arabia, Kuwait and others would have seen their oil income reduce and may be in need of cash. According to various media reports, this may be putting pressure in terms of foreign institutional investor (FII) sales in the Indian equity market.

Though this increases the supply of shares in the market temporarily, it does not impact the fundamentals. It is also worth noting that sovereign wealth funds are not the only FIIs around.

The world is still awash with cheap money. Despite the US Federal Reserve raising overnight interest rates by 25 basis points (0.25%), interest rates on 10-year government bonds are at record lows across the developed world. Switzerland has 10-year bonds giving negative yields, Japan is talking about negative interest rates, Europe is around zero and even the US has quite low rates. In such a scenario, imagine the plight of an endowment, pension fund, a corporate or an individual saver trying to invest money for retirement. FIIs also comprise of entities like these and sooner or later they will have to invest money somewhere other than their own money market accounts.

So, it does not seem that all FIIs will be sellers. Many may, in fact, look to increase their investments.

Apart from oil, prices of other commodities are also low. For companies from Exxon Mobil to Cairn, from Selan and Arcelor Mittal to Tata Steel, there will be tough times ahead. If your company or business depends on digging a hole in the ground and extracting natural resources, too bad. Grin and bear it.

Second order effects will also be there. For example, foreign exchange remittances from West Asia will be under pressure and migrant workers will probably see wage cuts, higher taxes or even job losses. Lenders such as banks (that have lent money to commodity companies) will suffer pain for some time since some money will be lost here. Exporters to countries such as Russia, Nigeria and those in West Asia will see sales decline there.

Times are, however, not bad for companies that are not digging a hole in the ground (which means most companies in India). Input costs have significantly declined. Hence, even if sales growth is modest, profit growth is better. (We have seen this in the December 2015 quarter and might see this going forward.)

Finally, equity prices are slaves to corporate earnings. On the whole, there does not seem to be much damage done (barring individual commodity and financial companies).

Therefore, given this fact, equity fundamentals are better. Stock prices are down 15-20%, and earnings for the non-commodity pack will grow.

So, what should savers and investors do? If you are getting sleepless nights, sell all equity and buy tax-free bonds—this is my personal opinion and not financial advice. My view is that no amount of money is worth a sound night’s sleep.

If your investment horizon is 1-2 years, you should not have been in equities in the first place. Do not come to equities for investing horizons of less than five years. If on the other hand you are saving for your retirement or a long-term goal, you should welcome lower stock prices.

What matters is not interim stock prices but the stock prices when you are actually going to sell your investments in the future. If stock prices fall in the interim, it gives you an opportunity to buy more with the same amount of money, which benefits you more.

Rajeev Thakkar, chief investment officer and director, PPFAS Asset Management Pvt. Ltd

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