India’s Rate Easing Cycle Still Not Over, Says Money Manager Ashburton
Ashburton expects RBI to cut rates in the first few months of next year.
The Reserve Bank of India may have sounded some caution on India’s inflation trajectory in its recent policy review but money manager Ashburton Investments says the easing cycle is not quite finished.
“We still think inflation looks well contained. There is a possibility that in the first few months of next year, rate cuts could come through,” Jonathan Schiessl, chief investment officer at Ashburton Investments told BloombergQuint in an interview.
Ashburton is bullish on India from a long term perspective and sees plenty of buying opportunities even at current levels, Schiessl said.
Here are edited excerpts from the conversation.
What would you watch out for in the U.S. Fed’s commentary in the upcoming FOMC meet? How many rate hikes, do you expect the Fed to take over the next one year?
The market is pricing in a rate rise. That’s more than baked in for this month. The next is beyond where the debate is. If you look at the dot plot research, the market doesn’t believe where the dots are going and the Fed may hike more than what the market is currently pricing in. Everybody, at the moment, is focused on the yield curve and that wonderful predicted power of the inverted yield curve which has in the last seven occasions predicted an upcoming recession.
We would not be too concerned about growth next year from an economic and macro perspective. In 2019, things will probably get a little more interesting. So, the next year, there could be a massive debate on what the Fed will do - do we get three rate hikes, do we get four...That’s going to ongoing throughout the year. We are going to see what happens to inflation and the jobs data. From the macro perspective, we are comfortable. When you push that view into asset prices, then that’s another debate.
What are the implications that the corporate tax cut in the U.S. for American equities, global markets and emerging markets?
Trump seems to be having his own own way on a few key policy promises – tax cuts and a few more controversial policies seem to be getting through as well. If the tax cuts improve the competitiveness of corporate America, then it is a positive from the market or corporate America’s perspective.
From the emerging market and global perspective, what impact can it have on the dollar? Because if corporate America gets a huge boost in tax cut, the Fed will, probably, be more concerned about the inflationary impact. If corporate America begins to finally spend, it has actually increased capacity.
Globally, it is positive. And if America is doing better then that will pull the rest of the globe up. The dollar strengthens again which will have implications on emerging markets and all markets globally. So, it is a positive move and we have to wait till it us pushed through. But it will be interesting to see the pressure this will put on some other parts of the world to reciprocate and cut corporate taxes. It could be happening in India and the U.K.
How do you think emerging markets are placed relative to developed markets? Where will you place your bets?
If you look at the Street, most people are positive on the emerging market outlook for the next year. Emerging markets including India have had a good 2017 so far. The world and its wife is worried about U.S. valuations. That’s one of the reasons broader emerging markets, even after the run we have had, had an attractive proposition for quite a few developed market investors.
The broader emerging market space certainly looks cheap even after the run we have had. And you couldn’t say that India looks cheap. India will benefit, and investors will still allocate to EMs even after the run we’ve had. It comes back to what happens with the dollar, which emerging markets are set up for a stronger dollar, or not. Those emerging markets which have high U.S. dollar debt or the usual reasons which cause emerging markets crises if the U.S. dollar strengthens too much. That is going to be a crucial debate throughout most emerging markets next year.
Do you think the Indian market looks tired right now? Where do you think it will head, in terms of levels?
We are incredibly positive on India on a 3-5-10 year view. In the short term, we have seen a continuation of the re-rating rally. Corporate earnings need to kick in. With all the disruptions we have had over the last year, it is still debatable if earnings could start picking up in a meaningful way. The Street’s consensus for next year is too high which need to be come back down.
Despite that, we would expect Indian earnings to surpass double-digit growth next year. Some of the earnings recovery will come through. A lot of the uncertainty from demonetisation, GST will start to unwind. Also, because of demonetisation and disruption from GST, the base is incredibly low. So optically, it won’t take much for India to look as though it’s really started to push ahead even with base effect kicking in more than real underlying growth.
The RBI, in its commentary, was cautious about inflation. We are not a 100 percent of the view that the loosening cycle in India is finished. We still think inflation looks well contained. There is a possibility that in the first few months of next year, rate cuts could come through.
But we need to see what happens with energy prices and the dollar. All in all, the market needs to consolidate. There is a lot of hope and anticipation built in about continued, strong domestic flows. That may slow down a little bit but foreign investors have not really participated in a great deal. We will not too disheartened about the prospects for next year. Probably, the big gear is this year but next year might surprise.
If we do see a minor correction in the Indian markets, will you add to your India portfolio?
We are heading toward a national election in 2019. We have the crucial state elections coming up which could generate a bit of volatility in the short term. But ultimately, we do believe we are at the bottom of the cycle. Yes, earnings are taking time to come through. But the structural reforms that have been put in place are disruptive and we believe that it will be worked through.
How comfortable would you be if we were to see a fiscal slippage of 20-30 basis point?
It is something we need to watch out for. We are not too concerned about it. It is creating a lot of noise. This transition to GST was always going to be tough. You cannot reform your tax system without a few headaches and that process will take a few more months. I am not going to be worried about a few basis point slippage. India has that high growth opportunity and we are at the bottom of the cycle. The steps that have been put in place means the cycle will last longer. From a fiscal perspective, we are not too concerned for the moment.
How did you read the first half of the financial year for earnings and what can we expect as we move into the second half?
We are fixated with indices...Sensex, Nifty. When you look at aggregate index earnings, it is hiding a great deal of divergence in the underlying sectors. The recent pickup we have seen in earnings is predominantly driven by global-oriented sectors – energy sector, commodity sector. That’s where we have seen most of the growth so far. There was impact from the domestic sectors too.
We will see a shift again. As the underlying economy calms down and people understand how to use GST in an efficient manner and we get the base effect kicking in, then growth will surprise on the upside. There is a link between underlying economic growth and earnings. That will come up. So, the Street is still too bullish about the overall prospects this year and we have not finished the downgrade cycle. But we will see 15-20 percent earnings growth which is not too bad.
Should one start worrying about a slowdown in consumption expenditure?
The rise in energy prices is not going to help from a consumption perspective. There has been stress in rural India which would have held back consumption. Whereas I imagine urban consumption data still looks positive or better on a relative basis. Consumption has been holding up this economy for the last couple of years and we have been waiting with bated breath for many quarters for a much-heralded revival in the investment spend. There are headwinds in the sector. Recapitalisation of PSU banks is one big tick in the box. We will let growth do its work. There is certainly excess capacity in certain sectors of the economy which need to be worked through before you see the private sector begin to kick in. All we need is some positive data. We have had two large disruptions in the economy over the last year and it is bound to be difficult. But from a government perspective and pro-growth perspective, announcements should be coming out as we near the national election is in 2019. No one’s expecting the economy to roar away anytime soon. We believe that with all the plans in place and the focus of growth again, that we should see a gradual revival in investment spend. But the government will do the heavy lifting for the time being. Over time corporate balance sheets need to be repaired and the private sector will probably kick in a bit later.
What will you like the new CEO and MD of Infosys to do in terms of strategy?
It was very heartening to see the appointment and the experience of the new person joining the company. It has been a tough year to be an investor in Infosys. The company has had its internal issues, it is in a transformation. As an investor, we like stability. We have a new man on board. We want a very clear articulated strategy about where the company is going and the areas it will carry on focusing on. They were on the right track under the previous regime. So, I wouldn’t want to see anything too radical. It is fairly obvious that the company will be focusing on a lot of the core areas which was already transitioning. For us, we want stability, clear and rationalised focus on where and what the company is trying to do.
Infosys is trading at a significant discount to TCS. If we can get that clarity and vision and continuity of what the company is trying to do in the next few quarters, then we can expect the valuation disparity to close. Right now, it is a large valuation disparity from a historical standard.
Along with Infosys, Ashburton also has a sizable investment in HCL Technologies. How do you see the evolution of India’s larger IT companies?
A lot of these businesses are transitioning and some are finding it harder than others. While we continue to hold positions in IT firms, it is not purely about the individual stocks themselves, it’s also about risk. When we look at the rest of the market in terms of valuations, IT is cheap because there are transition and growth issues. If you look at the entire portfolio, IT acts a balancing factor. Given where the market is and the valuations for certain sectors, IT sector is under-owned, it provides valuation support – particularly dividend support – with the buybacks going on. So, if you look at the from the overall portfolio positioning and a risk perspective, is probably why we will held on to these stocks. If you look at the returns compared to the broader market, it doesn’t seem like a very good position to be held it and it has been painful. But if we were 110 percent invested in consumer facing, expensive staples, then there is a lot of risk embedded in that portfolio. We try and look at it both from a company level but also from a portfolio level. That’s the reason we have stuck to these companies through tough times for the last couple of years.
What is your stance on Indian financials?
We bought State Bank of India in the last few weeks. I am optimistic about the outlook for corporate banks in India – something like SBI, ICICI Bank or Axis Bank. When you look at the valuation discount between the corporate banks and the much more highly valued retail-focused banks, there is an attractive story. When we look at a number of factors, the recapitalisation of banks for us was an important event. Yes, there is not much risk capital going into these banks but PSU banks can come back in the market. Rising yields in the Indian 10-year market is making banks from a corporate perspective more competitive vis-à-vis the bond market in India which is taking quite a bit of market share over the last couple of years. The space for corporate banks, with the idea that economy is recovering, bottoming out, beginning to grow again. For most of the banks, especially the weaker ones, a lot of the issues have been addressed. It is a great time to own corporate banks because we are at the cusp of a revival in credit demand, be it for working capital loans or whatever. We have seen a few months of uptick in credit demand for the banking sector. We think that will continue to grow. Rising yields in India makes banks more competitive versus the bond market.
Did you see merit in investing in cryptocurrencies?
I struggle to get my head around bitcoin and other cryptocurrencies. If I want to diversify, the yellow metal to me is still attractive. What worries me fundamentally about cryptocurrencies and bitcoin, is as they begin to get systemically more important, then regulations will kick in. Governments eventually will start regulating these cryptocurrencies. I just can’t see central banks, globally letting go of paper currencies. But I need to be educated about these things more. It is fascinating.
Watch the full interview here.