Interview column in Financial Chronicle

Media Coverage | Published on 24th May 2018 | 48

1. Can you evaluate the market movement since the beginning of this month?

After crossing the level of 11,100 in late January 2018, the Nifty has corrected close to 1000 points from the peak. Although the Nifty did bounce after touching a low of 10,150 on March 03rd, the subsequent bounce has been met with consistent selling. While the downward trend was triggered by the tax on LTCG imposed in the budget, the structural problem began with the $2 billion PNB fiasco. The US initiated trade war has depressed sentiments in March and the undertone of the market has shifted from “Buy-on-rises” to “Sell-on-dips”.

2. Do you think energy and financial stocks would keep dominating the market movement going ahead?

While private banks and NBFCs are still preferred, the overhang over PSU banks has been quite heavy. No immediate respite for PSU banks appears to be likely for now. On the energy front, some of the downstream oil companies are benefitting from improved GRMs and attractive dividend yields. However, the market undertone appears to be cautious.

3. The market witnessed major sell-off by FIIs in February. What were the main reasons of this sell-off and how do you see the FII fund flows into Indian equity markets going ahead?

For the month of February, FII selling was to the tune of Rs.18,619 crore in equities but DIIs bought to the tune of Rs.17,813 crore. The equity sell-off by FIIs was largely driven by concerns over valuation and the FII preference for other Asian markets at this point of time. With the US likely to hike Fed rates 3-4 time during calendar year 2018 and the trade war threatening to spill over, FIIs may be cautious on investing in India. Also, with just a year to go for the general elections, the government may focus less on big-bang reforms. That means, there may not be any immediate trigger for FIIs to buy in India.

4. Do you think Indian markets have become resilient to the FII outflows and why?

While the DFI inflows have quantitatively compensated for the FII outflows, the impact of FIIs on Indian markets may still be outsized for two reasons. Firstly, FIIs own a bulk of the liquid names, which have bigger weightage in the indices. Secondly, FII selling impacts the market sentiments and also negatively impacts the INR. This dual impact is the reason it will not be so easy for Indian markets to become resilient to FII flows. However, it needs to be said that the DFI flows have been largely instrumental in sustaining market levels from correcting too sharply.

5. How did the PNB issue highlight the chinks in the banking armour and how has been the reaction of the market, especially banking stocks, to this issue?

The PNB fiasco does raise some serious questions over the actual level of NPAs of the PSBs. The market reaction has been negative for two obvious reasons. Firstly, for banks like PNB the provision of $2 billion will almost be half of its net worth. It also raises questions about similar practices in other PSBs. Secondly, the government will now have to commit substantially higher funds for the recapitalization of banks than was originally anticipated. This is likely to have a negative impact on the government’s fiscal planning for the coming year. The PNB issue has certainly created a huge pall of uncertainty over PSB stocks.

6. Last week we saw RBI discontinuing Letter of Undertaking and Letter of Comfort. Broadly what will be the impact of this on India Inc?

We need to remember a couple of points here. The discontinuation of LOU and LOC will be effectively prospectively and not retrospectively. That means, all past LOUs and LOCs will be honoured, although greater diligence and oversight is expected now. The LOU was a quicker method for exporters to get credit guarantees and also a good source of fee income for the banks. Both the exporters and the banks will lose out as a result of this discontinuance of LOU and LOC. However, we also believe that the banking system overall becomes sounder and more sure-footed if the RBI limits access to such products.

7. What is the probability of a trade war between the US and China and how did the global markets react to this possibility last week?

First and foremost, we need to understand that a trade war was last seen nearly 80 years ago and that led to the Great Depression of the 1930s. Technically, trade wars are negative for 2 reasons. Firstly, higher import tariffs do not encourage domestic industry but they surely lead to higher levels of imported inflation. Secondly, trade wars eventually degenerate into currency wars with countries trying to competitively devalue their currencies to make their exports more attractive. While the EU and China have threatened to retaliate, we have not seen any concerted action. Both the EU and China are just seeing their economies recover from a prolonged economic slowdown and they will not be keen to get into a trade war at this point of time. We are confident that a more acceptable solution will be found without degenerating into a trade war.

8. Going ahead in the near to medium term what will be the key factors affecting the movement of both global and domestic equity markets?

For the year 2018, the equity markets could be driven by a mix of domestic and global factors. Firstly, the hawkishness of the US Fed will be the key as anything above 3 rate hikes can be negative for global markets. Secondly, if the trade war actually degenerates into a currency war then the impact across emerging markets could be quite heavy. Thirdly, Indian stocks appear to be fully valued even after the correction and that will limit the appetite for Indian equities. Lastly, Indian economy is likely to go through a political and structural shift in the next few months. It needs to expand spending ahead of elections but needs to keep its fiscal deficit and inflation expectations under control. How the government manages to balance the demands of economics and the reality of politics will eventually determine how the Indian markets pan out during the year.

Global markets will be betting a lot more on the return to growth and to witness the benefits of US tax cuts. How the US Fed rates and the trade wars pan out will be a key deciding factor for global markets!