1 Jun 2020
The global economy today has come to a standstill; neither can it move forward nor can it move backward and nor can it stay in the current situation. Globally central banks are pumping liquidity, countries are announcing large fiscal and monetary stimulus. Currently, the fiscal stimulus is ~9% of the global GDP in the major economies. However, too much fiscal stimulus has led to a sufficiently large increase in the global debt-to-GDP ratio levels. The only way to sustain this is by reducing interest rates. Over the years, the global aggregate yields have fallen against an increase in the global debt-to-GDP ratio.
Global central banks hope that money supply growth might induce industrial growth. Between March-April'20, global bond prices corrected sharply. But that has recovered because of liquidity pumping and policy rate cuts. In Mar'20, global equity markets witnessed a steep correction. Though, owing to large fiscal and monetary stimulus, 2/3rd of equity losses have been recovered in May and June 2020. But this recovery has come with sharp polarization. The gap between high & low valuation stocks has widened. China which was the epicenter of the virus is getting back to work though not fully back to normal.
On the domestic economic front, there will sectors which will be impacted less such as Agriculture, Telecom, FMCG, etc. On the other hand, there will be sectors that will be hit hard such as Aviation, Tourism, Gems & Jewelry, and Multiplexes, etc. Going ahead, leveraged companies may face difficulty in the current economic situation. As per global agencies, India is expected to contract between 5-7% in FY2021. However, agencies are of the view that FY21 GDP growth may be between 7-10%. For Q4 FY20 there is a steep decline in Nifty 50 Earnings even below muted expectation. Nomura India business resumption index shows initial trends of business resumption.
One visible trend is that Bharat or rural India is doing far better vis-Ã -vis urban India. For eg. The retail fertilizer sales were 2 times higher in May 2020 as compared to May 2019. Similarly, tractor registrations have touched 90% of FY20 levels. Even 2 wheeler sales were better in rural and semi urban areas compared to urban areas. The long term aim of the government is to increase farm income. And some of the steps announced in the COVID-19 economic package can probably materialize this if we free our agriculture sector by removing the essential commodities act, freeing up the APMC market, and supporting contract farming. Rural India's economic recovery is also supported by a good monsoon season. A good monsoon is likely to result in surplus agriculture output, which should support growth in the rural economy.
In the case of Urban India, things may not be as good but are also showing signs of recovery in the last week of June 2020. Indicators like power consumption, e-way bill generation, petrol & diesel consumption and electronic toll collections, show improvements in June. India's unemployment rate has fallen rapidly from 27.11% as of 3rd May 2020, to 8.59% as of 28 June 2020. The rural unemployment rate is better than the urban unemployment rate, indicating Bharat may be doing better than urban India. The GST collection is an indicator of what's happening on the ground. In March it dipped below Rs. 1 lakh crore. In April it was ~Rs. 32,000 cr, May ~Rs. 62,000 cr and in June against all expectations came at Rs. ~91,000 cr. India's manufacturing PMI Index has also improved from 27.4 in April to 47.2 in May indicating that entrepreneurs are turning bullish about the future.
Overall, the broad market performance in the corona-induced economic crisis is worse than the 2008 financial crisis. More than 60% of the companies' revenues (YoY) have had a higher decline compared to the 2008 financial crisis.
Nifty at the current levels is discounting lower gold and oil import bill and narrowing trade deficit with China. It is also discounting rebound in economic activity, fiscal and monetary stimulus will work on the ground and support GDP growth in FY22. It is also discounting potentially higher FPI flows. MSCI and FTSE indices are looking to increase India's weightage and this is expected to bring a potential passive inflow of about US$ 7 bn in the Indian equity markets. More importantly, it is discounting a medical solution emerging by the end of this year. If these things materialize Nifty will continue to do well however if any or all of these do not materialize then Nifty will probably correct.
The world has seen about 8 vaccines entering from phase 2 trials to phase 3 trials in July. This is going to have a material impact on the way markets and the economy function.
Credit growth has decelerated in June'20 at 5.82% compared to June'19 at 10.73%. The credit offtake needs to accelerate for the economic recovery to sustain. which is where the government's MSME & NBFC credit guarantee scheme will be useful.
While the topline Nifty has bounced back, the broader market is still trailing its historical valuations. For eg a single stock Reliance Industries contributed more than 60% in the Nifty move from 7600 levels to 10300 levels. It can be noted here that today Nifty 50 is available at 3 years before prices of 2017 levels, Nifty Midcap is available at 4 years before prices of 2016 levels and Nifty Smallcap is available at 9 years before prices of 2011 levels. The market cap-to-GDP ratio fell from 79% in FY19 to 56% by around April 20. The same has bounced back and is now at around 71%. This is still marginally lower than the long term average of 73%. The forward P/B at 2.4X is 10% lower than the long term average.
In this backdrop, we believe that it is time to be marginally overweight on equities. Investors can look at increasing their risk one level-up to capture the long term market potential. Though short-term risks remain on account of rising Corona infections, impending lockdown, or geopolitical standoffs.
On the debt fund side, we believe that it is time to belong on duration. The long-term inflation is on a downward trajectory. RBI has also adopted a benign and accommodative stance in the market. In this scenario, investors can look at dynamic bond funds from a 3 year plus perspective. Investors can also consider investing in Banking & PSU fund to capture the relatively high yields in the perpetual bond space. This is time to take one step on duration as interest rates are soft and likely to come further down. We continue to remain conservative on the credit side and our liquidity position remains comfortable across debt schemes.
On the mutual fund's side, the average industry AUM for the Apr-Jun 2020 quarter stood at Rs 24.62 lakh cr. This is a 3% de-growth over the same period last year. The Covid induced panic amongst debt investors may have been attributable to this blip. In the same period, Kotak Mutual fund average AUM grew up by 3.8% YoY and stood at Rs 1.67 lakh cr.
We believe that our partners can deliver value to investors in the current market through a three-pronged strategy. For one, they can communicate the past market experience to develop a long-term investment perspective. Secondly, we will have to help investors ignore social media rumors in favor of facts and opportunities. Thirdly, we need to convince the investors of the need to maintain and increase SIP/STP at the lower market levels. This way, the investor stays invested and allows the market the time to generate a better investing experience in times ahead.
