Budget 2020: Nandita Parker Sees This As Modi’s ‘Triple Challenge’ To Put India Back On Top Of EMs
The triple challenge before the government is to present a budget that will help regain investor, business and consumer confidence, according to Nandita Parker, founder of Karma Capital Management.
“India used to be at the top of the totem pole of emerging markets when it came to attractiveness. Even though today it seems like distant memory, I think there’s a lot that can be done to regain that top spot,” Parker, who also founded Asset Managers Roundtable of India, told BloombergQuint in an interview.
Parker had suggestions that could help the government regain the confidence.
Besides concerns over taxation, regulation, overregulation, micromanagement and uncertainty flagged by others, Parker said one of the things that her firms keep hearing from companies and businesses is that the government needs to pay its bills.
“The central government needs to pay the states what it owes, and the state governments need to pay vendors, suppliers, contractors and so on—the dues,” she said. According to her, this is something that will bring liquidity back in the hands of project developers and infrastructure companies as despite the plenty of liquidity in the banking system, it’s not reaching the last mile.
For investors, she suggested removal of long-term capital gains tax as it’s acting as a hurdle for foreign portfolio investments. “This would bring India in line with global norms since only two countries in the world tax foreign residents for the transfer of our share of securities,” Parker said.
Such a relief can be offset partially by a marginal increase in STT, if required, she said. But, according to her, positive effects of such a move on the cost of capital of India and dollar inflows will really offset any cost impact.
“The second big thing will be to allow foreign funds and offshore funds to move their operations into India and run out of India,” Parker said, adding that it could help create 100,000 new jobs, generate billions of dollars of tax revenues for the government.
The industry is also looking for the dividend distribution tax going to zero and shifting dividend distribution tax from the company to individuals who get dividends, she said. It would remove some of the distortions that exist in the capital structure and allocation when companies make decisions, according to Parker.
She, however, would like to wait and see if the government cuts personal income tax rates, after lowering taxes for corporates, to boost consumer sentiment.
Equities And The Key Investment Theme For 2020
The recovery in small- and mid-cap stocks seen at the end of the previous year has continued this year even as benchmark indices were driven to new records by heavyweights. Parker expects the trend to continue for the rest of the year. And she expects earnings to recover, driven by recoveries through the insolvency resolution, higher telecom tariffs and rise in commodity prices as steelmakers and cement companies gain from India’s infrastructure push.
And as climate change becomes a key issue, Karma Capital Management sees an investment opportunity there in 2020. “The focus is a lot more on companies which are helping the environment, whether it’s reducing their carbon [footprint] or helping other companies reduce their carbon footprint, green energy, wastewater treatment, sewage treatment, and so on.”
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Here are the edited excerpts from the interview...
2019 was the year that probably you could put in the back burner in hopes that 2020 will turn out to be better for equities. Nonetheless, the index did hit fresh life highs. Do you feel that 2020 as a year could be any different? Say for example, even the fact that mid and small caps can start to outperform versus the polarisation that we witnessed in 2019?
Yeah, I think we’re certainly starting with that. Since the beginning of the year there has been a sharp revival in the fortunes of the small- and mid-cap stocks. I expect that trend to continue for the rest of the year as well. There are a number of hurdles we need to cross before we paint a very sanguine outlook for the economy. But it looks like the government is now fully informed of the challenges that lie ahead for economic growth to pick up. Some of these have been outlined by the business houses, some of these have to do with taxation, some of these have to do with regulation, micromanagement, over regulation, uncertainty, all of that needs to be addressed. Let’s step back and recall the time when India used to be at the top of the totem pole of emerging markets when it came to attractiveness. Even though today it seems like a distant memory, I think there’s a lot that can be done to regain that top spot. I’m looking forward to this budget that will be presented by the government on Feb. 1, to lay out a road map of how investor confidence will be regained, how business confidence will be regained, and how consumer confidence will be regained. So, it’s a triple challenge to the government and a lot for them to work on. I believe that they have been talking to various stakeholders in the past few weeks and months. We have also put forth our proposals and if you like, I can take you through that right now.
It’s been a growth-challenged environment. And as recent as last night, we heard the fact that IMF is talking about a growth forecast for 4.8 percent for India. So, it’s a really big challenge for the government now as to what innovative tools and measures that can come up within the budget to make sure that the demand that has been suffering because of the growth that has been tripled so far, gets corrected. So, what do you think could be the measures that could be adopted by the government?
Right. So, a couple of things from my standpoint. I mean, one of course is spending on infrastructure. Very particularly, I want to focus on something which is not very much talked about here in India is the impact of climate change. So, India needs to build all of the infrastructure possible to fortify itself from the negative impact of climate change and from natural disasters, which seems to be going around the world. Starting from the California fires to Australia, and the devastating effect of floods, fires, changing of river courses, the melting of the third pole—which is right here, the Mount Everest. These kinds of things have to really come into the conversation. Businesses have to plan for it and government has to plan for it. So, the government has announced a very large infrastructure spend plan for the next five years, more than $1 trillion, which is 50 percent higher than how much they spent in the past five years. Really what needs to happen is, we need to plan for the next 10 years, and focus a lot more in reduction of carbon emissions, in a reduction in pollution, in actually taking carbon out of the equation, and so on. So, this is one big area. From our standpoint, we’re focusing a lot more on companies which are helping the environment, whether it’s reducing their carbon or helping other companies reduce their carbon footprint, green energy, wastewater treatment, sewage treatment, and so on.
The other thing I’d like to point out is not just us but the bulk of investing globally is now driven by ESG (environmental, social, and governance). 38 percent of global flows are going into ESG-focused type of companies. So, this is a very big area that the government can tap into, for not just FII but also FDI into India. But, this is a long-term situation that we need to address right away.
Another aspect that I want to talk about and the ask from the industry are two things on taxation. One, reduction—the removal of long-term capital gains tax, which is acting as a hurdle for foreign portfolio investments into India. This would bring India in line with global norms. Only two countries in the world tax foreign residents for the transfer of our share of securities. So that’s the number one ask. That would make a very big impact on market sentiment, it will make a very big impact on foreign investor sentiment and this can be offset partially by a marginal increase in SDT, if required. But I also believe that the positive effects just are of long-term capital gains tax going away on the cost of capital of India, on dollar inflows into India, will really offset any cost-side impact.
The second ask, which is a very big one, is to allow foreign funds and offshore funds to move their operations into India and run out of India. This is a huge area where it can create 100,000 new jobs. It can create billions of dollars of tax revenues for the government and it’s acting as a hurdle for foreign investment. So, these are the two things that I’m looking out for.
I know that industry is also looking for the dividend distribution tax going to zero and shifting dividend distribution tax from the company level to the individual level or to be taxed in the hands of the person who gets dividends. What this would do is, remove some of the distortions that exist in the capital structure and capital allocation when companies make their decisions. So, this is another area that we think would be very important to be addressed in this budget. So, I think that, from a government standpoint, they have really multiple challenges to face. But I think this is the time to take some bold actions and bold measures and take cognizance of the issues that investors are facing.
What could the government really do to make sure that consumption comes back on track and address the industry-wide demand shortfall that we’re currently seeing? And do you think that’s going to remain a bigger challenge?
So, one of the things that we keep hearing, as we talk to companies and businesses is that the government needs to pay its bills. The central government needs to pay the states what it owes, the dues of the states and the state governments need to pay its vendors, suppliers, contractors and so on -the dues. So, this is something that will bring liquidity back in the hands of developers, project developers, infrastructure companies and so on. While there is plenty of liquidity in the banking system, the liquidity is not reaching the last mile. So, these are some of the things that need to happen.
Do you feel 2020 is going to be a year of earnings improvement? We’ve seen valuations of certain segments soar really high. India as a market is still not cheap. We’re trading at record high levels even compared to the other emerging markets. Corporate earnings have been lagging. Do you see 2020 change that?
Yeah, I would hope so. Because the past five years have been very disappointing for corporate earnings in India and this is for the broad base. This year, we’re going to see a recovery in the banking system in terms of earnings growth as a result of reduction in the whole NPL cycle and write-back. So, I think the positive impact of IBC and bad loan resolution is coming into the fore where the banking system is concerned.
Second, we’re going to see an upsurge in earnings of the telecom operators. These may not be the best thing for consumers because the sharp increases in tariffs are certainly not going to benefit the consumer. From an earnings growth perspective, yes, this is certainly coming back.
Third, we’re going to see an increase in some of the commodity sector earnings across the board. We’re seeing price hikes in steel, we’re seeing some pricing power return to cement. Let’s see how long that sustains and whether it sustains post monsoon. But based on the infrastructure spending announced by the government, it seems to me that from the commodity end as well, India is going to see some benefit. So, a lot of these old economy-type plays are going to come back and start looking more interesting from an investment standpoint.
We’ve seen asset-heavy industries, particularly on the index, the likes of energy metals and auto being a clear underperformer versus the services and even the financials, like we spoke about even IT for that matter seems to be doing okay for itself. Do you see that as a trend continuing or for that matter, asset-heavy industries could turn the corner stone?
We tend to not be bullish on the automobile industry for a number of reasons. But other than that, the rest—the infrastructure-related industries, companies that are focused on sewage treatment, wastewater treatment, de-carbonisation, biomass, waste to energy, clean energy, anything to do with the environment I think we’re very bullish on and we were expecting a change there. We also think that, particularly with the global focus on plastics’ pollution of the rivers as well as oceans, this is becoming a big issue. A switch over to paper and paper packaging is a very important global trend that we’re seeing. So, I think India as well has a bunch of a number of paper companies. So they should see some amount of interest. There is a lot more to choose from today as a result of the very large valuation gap than what has existed in the past. But let’s wait and see what the budget brings out and whether it will attract the $25-35-billion type of FII investment that India has the potential of bringing in.
The potential which we’ve not been able to tap into for some time now, that was something I wanted to talk to you about. FIIs looking for growth of late, I’m not going to be able to find that in India. Now, with GDP expected to grow at 4.8 percent, most foreign brokerages are talking about North Asia as a pocket where much of the money is starting to flow. What do you think will bring them to Indian shores and invest?
I think if the government takes very credible steps to address some of the concerns of foreign investors. When it comes to growth, as we talked about spending on infrastructure, addressing the taxation challenges that companies are facing, removing tax uncertainty, removing regulatory hurdles and making the environment a lot more predictable. So, I think when it comes to risk capital, capital is looking for risk-reward in a different way today. India needs to take cognizance of the fact that there are lots of places to choose from. In order to regain its top spot on the totem pole, it really needs to make these big policy shifts. I’m pretty sure that if it does then it will be rewarded. Then, we can see, you know, the next five years can be the start of a very interesting super cycle of investment in India.
The government came out with corporate tax rate cuts, which helped the profit of all companies. Expectations are that you may land up with something (measures) over the personal tax in the budget as well—which could leave more money in the hands of consumers. That could spur the consumption cycle. Are you expecting anything of that sort?
It’s hard to say. Let’s just wait and see.
What do you think would a disruptor on the global front be? We have shrugged off trade tensions for now. We’ve got the first signing (of deal between U.S. and China). Geopolitical risks, you saw the initial knee-jerk reaction that equity markets had with regards to Iran and the U.S. But now, it seems to have stabilised. Do you feel there could be other disruptors with regards to global market uncertainty?
So, I think the U.S. is going to be avery interesting space to watch given that this is a presidential election year.If there are some interesting candidates on the Democrat side and their abilityto challenge President Trump, that could be a very interesting space that themarkets are probably not pricing in right now. Depending on who the Democraticcandidate is, we can have some volatility in the markets in the middle of theyear. So that’s one space to look out for. Secondly, U.S. recession, theexpansion has gone on for a decade. A lot of economists have stopped predictingwhen the U.S. recession might hit and what magnitude it might be.
That’s something that could be somewhere down the line, a 2021 type of event andsomething not to be considered this year. Also, its impact on emerging marketsnow remains to be seen because today, the emerging markets are in much bettershape than they were last time around. As I said, I think the biggest challengecould be this volatility related also to climate change and these events arevery hard to predict. But this is certainly something to look out for.
Does it worry that the last decade of a bull run that we’ve seen for the U.S. equity markets has come on the back of easy and cheap liquidity provided by the central bank? It doesn’t look like that they’re going to hold back anytime soon as well. So is the case with most central banks which are pumping in liquidity into the system. That’s finding its way into the equity markets with no clear substantial improvement in fundamentals. Is that a worry?
I think all rallies are led by liquidity. This isn’t a new thing and excess liquidity can also lead to economic activity. So, one thing can lead to another. In India, clearly the lack of liquidity was a big factor in choking off economic growth in the past two years. If banks areflush with liquidity today and we get in India, large amounts of inflows, FDI,as well as FIIs, that certainly can lead an economic recovery. So, I’m not so concerned about that.
Are you increasing exposures to any specific sectors in Indian equities?
As we mentioned, we’re focusing more andmore on the E of ESG (environmental, social and governance) investing. Yes, we’re focusing on companies that are de-carbonising and helping other companies decarbonise and reduce their water consumption. Increase efficiency in their processes, reduce energy consumption as well as paper. These are our areas of focus. I think that one of the things to look at is India is now producing 7,000 startups a year. This is a very exciting space to watch and over time, these will come into the listed space as well. That’s another area that will grow.
The most recent spate of events with regards to you know the Corona virus and its impact on the Asian markets right now. I mean, there are talks of the possibility of Asia-focused funds pulling out on the back of this issue. Do you see that having a bigger impact?
Well, it’s hard to say. It depends on the type of travel advisories that are put out, it depends on the amount of screening that happens. One good thing that I see but I don’t know if it’s exactly true yet, is that this is not the deadliest of viruses. So, it doesn’t have the high fatality rates that we’ve seen with Ebola. But if you look at the impact of SARS (severe acute respiratory syndrome) almost 20 years ago, there was a very big impact in China in terms of GDP growth and in Hong Kong. To the extent that this is emanating from China, there can be an impact but it’s too early to say. I would think it does impact the travel industry and there would be a reduction in any kind of discretionary travel. But really, we must see what type of advisories and screening measures are being put out by the authorities.