Is gold ironically losing its shine when inflation is rearing its ugly head?

In these trying times, when inflation has begun to bite the consumers, gold should be reigning supreme. That is what conventional wisdom would say. Gold as a hedge against inflation is a textbook play, except that markets don’t play to the textbooks. Markets play to the momentum. For reasons we will discover later in the section, optically, it looks like that the momentum is not with the yellow metal. How else one would explain the loss of luster in gold in times like these when positive real returns (returns adjusted for inflation) are rarity.

In inflationary times, there is always a rush to risk-off trade to protect returns against inflation. One could count on gold in such struggling times because money moves to gold when investors turn risk-averse.   The current environment is one of the typical risk-off regimes where central banks globally are tightening liquidity to contain the inflation monster. But in this cycle too (as in 2013 cycle), it looks like that the typical pattern is not playing out. Or are we missing something?

First, on the gold performance, some surprising findings:

  • In dollar terms, gold has fallen by over 7% in the trailing twelve months.
  • In Rupee terms, optically it looks like it has delivered positive returns (one year) because of currency fall i.e. near 2%+ returns.
  • Most surprising data point is that gold in dollar terms has remained flat over the last decade. This may not be good news for gold bulls.

One of the main reasons why gold falls (in dollar terms) during Fed tightening cycle is that it is priced in dollars. When dollar becomes dearer, which typically it becomes during the tightening cycle, gold which is priced in dollar moves down. It was no different in 2013 taper cycle. In 2013-2015 taper cycle, when dollar index rallied by over 18%, gold in dollar terms fell by 16%. It was more or less in line with the dollar index rally. But in this cycle, dollar index has rallied by over 17% in the last one year. Gold fell too, but far less than what the dollar index did. What explains the gap this time?

In the last taper cycle, inflation was not such a big worry as it is now. Hence probably gold fell in line with the dynamics of the dollar index. But in this cycle, with inflation out of control, probably there is new money moving into gold which explains the out-performance of gold versus dollar index. Though superficially, at the outset, it looks like that gold prices have fallen in dollar terms, in relative to dollar index rally, it has out-performed. This outperformance couldn’t have happened without some momentum favoring gold. If one goes by this out-performance, conventional wisdom of gold as an inflation hedge does score some winning points. Unfortunately, the out-performance level is not adequate to compensate the rise in inflation (measured in local currencies) across different markets. For e.g., the gold has returned barely 2% returns in India (in local currency) over one year while the inflation is over 7%. From this perspective, one could argue that gold has lost its luster when it comes to inflation hedge. To understand this gap, one needs to understand how momentum works.

In momentum game, rally begets rally in virtuous feedback loop. What performs gets more fuel to perform better.  From this perspective, dollar has attracted more flows because of its stronger immediate past performance. In the competition between dollar and gold in the risk-off flows, the dollar has won hands-down because of the stronger momentum in its favor. Logic doesn’t work when momentum is in play. That explains the unexplainable fall in gold in these turbulent times. Interesting times to watch out for.

Happy Value Investing!!

Indian markets: Has the pendulum swung from decoupling to recoupling?

On the decoupling debate, few days of brutal market action was enough to make a twist in the tale. The debate has now moved from decoupling to recoupling in matter of days for India. The death knell for decoupling debate came when Fed in its latest policy meeting turned more hawkish with its forecast for a much prolonged hikes in the coming months in its fight against inflation. Post that meeting, global equities slumped, treasury yields rallied and dollar index surged. The global slump did not spare the Indian markets. The Fed scare had shaved off about 4% from Nifty in just few trading sessions with serious collateral damage to the currency and Gsec yield. Indian Rupee breached the long-held support level of 80 to move near 82 while the ten year Gsec yield surged by over 15bps. With this, the decoupling debate has been put to rest.

Until this meeting, India stood out like an oasis in the desert with its markets moving up amid a global equity slump. That led to Indian markets out-performing major indices globally. In the period between early Aug and mid-Sep (till 16th Sep), Nifty was up by over 2% while the MSCI EM index was down by over 4.0%. That was a stunning out-performance of over 6%. Even against MSCI World index, which was down by over 4.9%, the out-performance was significant. Looking at another data point, from June lows, Nifty was up by over 11% (until mid Sep) while Dow Jones was marginally negative. All around, India was charting out its own course amid global slump. 

What was happening? Many had rushed to prematurely call this an age of “decoupling’ for India, rationalizing it on the ample ammunition coming from favorable geo-politics, tail-winds from global supply chain diversification, turn of profit cycle driven by domestic demand etc.

Down cycle or upcycle, it is usually the developed markets, esp. the US market that sets the tone and the Emerging Markets (EMs) follow the course earnestly. It is very unusual for any EM market to stand out and step out of this rhythm. This has been the case for India as well in many cycles. It is difficult for anyone to recollect any single cycle where it was otherwise. It was always one of tight coupling with what was happening in the overall EM basket. But this cycle looked different. Though it was tightly coupled in the initial part of the current down cycle, since Aug, Indian market seemed to have stepped out to chart its own path, at least until mid Aug.

Was this decoupling for real or will the markets soon recouple? This was the question that was in many investors’ mind till last week. Now, turning the clock to end Sep, it is no longer a debate. Markets seemed to have given a decisive verdict to this question with Nifty catching up with the rest of the global markets in the slump.

What should investors do in these difficult times?

Investors need to keep a balanced perspective during these turbulent times for the markets. While India’s macro is a relative sweet-spot for global investors with an attractive growth cycle, stable forex reserves along with superior external debt profile (external dollar debt at 19.9% of the GDP with long-term papers constituting 80.4% of the overall external debt), in the short-term, it is difficult for any EM to stand out and shine given the global linkages and spill-over effects of Fed’s tightening. So, when the global macros is at a difficult spot, it is not easy for any major economy to decouple on a sustained basis. 

From this perspective, it is prudent for investors to expect short-term volatility, though India might continue to stay as a relative sweet-spot for global investors for the medium term from political, geo-strategic and market perspective. What it assures is that once the short-term volatility is digested and weathered, India might come back to out-perform very strongly the global and emerging markets. Given this robust medium term outlook, Investors should use the short-term volatility and corrections if any to their advantage.


This article of mine was published in the online edition of Economic Times (07/08/2022). Glad to share the link:

The big Retail Rush: What is driving the consumption binge in India?

Data points for India and the world can’t be more divergent. While the world seems to be convulsing on the dread of triple R, India seems to be rejoicing on the rhythm of double R.  Triple R of Recession, Rate hikes and Reduction in central bank balance sheets dominate the narrative for the developed world whereas here in India, the double R of Retail Rush is reveling the retailers. Diwali seems to have set in early for consumer demand.

Retail business, PV sales, credit card spends and retail credit have seen a huge spurt in July after months of muted show. Both the RBI’s consumer confidence index and the CMIE’s consumer sentiments index (Center for Monitoring Indian Economy) have shown a significant spurt in July. More importantly, what is significant is that both these indices reflect the assessment on the future conditions of demand, besides the current one. This means the consumer confidence in India is likely to sustain in a durable manner, provided there are no further shocks from the global macro.

What is fascinating is the level of growth in July in the consumer retail vis-à-vis the pre-pandemic level in 2019 (not YOY from 2021). In most of categories, the growth numbers are gyrating at high double digits as listed below.  
23% in footwear
22% in apparel and clothing
32% in sports goods
23% in furniture & furnishing and 17% in QSR
17% in Consumer Durables & Electronics and 15% in jewelry

While opening up of contact-intensive services sectors and improved rural prospects on good monsoon etc. could be cited as some of the reasons for the rise in consumer sentiment, it doesn’t fully explain the extent of jump one is witnessing in various categories, esp. with respect to pre-pandemic levels. Looks like, there is more to it than what meets the eye. The reason being, the pandemic pent-up has been playing out for a while since March and hence can’t fully explain the surge in July, esp. when the global macro and inflation/interest rate scenario is much less favorable now compared to few months back.

So the key question to ask is, what is driving this consumption binge? If it is beyond the pandemic pent-up, what is it? In our view, it may be impossible to pinpoint to any one single factor that could be causing this upsurge. It could be because of a confluence of factors coming together in a coincidental manner to conspire this huge consumption surge. What could be these factors?

Here are some of the major ones…

  • With the clean-up of balance sheets and NPA cycle behind, banks and NBFCs are more than willing to lend, fueling credit growth (for e.g. latest data shows that a 77% jump in loans for consumer durables).
  • Cumulative pent-up (rather cumulative base effect) from accumulated demand because of slower growth over last six to seven years on account of teething troubles over reform measures such as GST, RERA etc. With these measures stabilizing, they are now acting as catalysts for renewed growth.
  • Opening up of contact-intensive service sectors and surge in disposable income among employees in technology and other services segments etc. have added, not in small measures to the consumer boost.
  • Improved confidence on India’s medium to long-term growth outlook on favorable geo-political settings (China+1 in particular), massive super-digitization cycle, progressive policy environment etc.

In summary, if one goes by above confluence, it looks like the surge we are witnessing in consumer demand is likely to sustain and could turn out to be a durable one. Further, there are early signs that the stress in the rural economy is easing as reflected in the fall in the demand for work under MNREGS in July (Mahatma Gandhi Rural Employment Guarantee Scheme). For the month of July, work demanded under this scheme fell to nearly half as compared to the prior month. This coupled with the improving prospects on the jobs front (due to an uptick in agricultural activity and a better monsoon which led to a 6-month drop in the unemployment rate in July), there is increasing confidence and comfort for a durable surge in consumer demand. Hope the Retail Rush becomes a double R block-buster for India in real terms like the theatre flick RRR in reel terms. Only time will tell. Interesting times!


Will the emerging market crisis eventually touch the Indian Shores or has India’s macro come a long way from fragile five days of 2013?

The crisis is deepening in emerging markets. The crack is widening far beyond the obvious names like Pakistan and Nepal. When a celebrated economy in the not-too-distant past is at the door-steps of IMF, one can understand the extent of crisis in the emerging markets. What was once extolled as a miracle economy, Bangladesh could now be bordering on an IMF bail-out?  Such is the scorching heat across emerging markets. In such a scary situation, one can’t help, but start digging deeper for any hidden macros risks in India. Could the consensus view of a relatively stable macro for India be clouded by few serious misgivings? Or, has India’s macro really come of age from those fragile days of 2013? Let us dive in and explore.

Emerging market crisis follows a very familiar pattern. In times of high liquidity cycle (while Fed is easing), money supply is abundant and it reaches far-away shores to seduce the usual EM suspects to go for an over-drive on consumption-driven growth with borrowed capital. In a playbook style, falling dollar index, rising local currency, cheaper imports, lower interest rates etc. all play together to fuel local consumption. In times of abundant liquidity, currency valuations get distorted to artificially high level so as to hide the underlying twin deficit problems (Current account and fiscal) that usually the case for most of the emerging markets which import much more than what they export. When the music stops, which usually does when Fed starts the tightening, the reverse dynamics of rising dollar index, falling local currency, surging interest rates etc. pushes up the hidden vulnerabilities to the surface. In these times, markets start looking closely at some of the metrics like dollar debt to GDP, current account deficit, level of forex reserves, upcoming dollar debt payments etc. with a microscope. If market smells a rat in any of those metrics, it beats down the currency in a vicious cycle to bring the country down to the brink of bankruptcy. This usually happens in a self-fulfilling feedback loop fashion with a falling currency triggering outflows which in turn fuels further fall in currency that in turn aggravates the already aggrieved twin deficits, inflation etc.

So, the key thing is the confidence of investors in the macro metrics. If it is broken, it triggers a vicious cycle as explained above. The confidence comes from various factors that include level of forex reserves, credibility of central bank in handling inflation, dollar debt to GDP, short-term debt payments, manageable current account etc.

Where does India stand on these?

Level of forex reserves are reasonably high at over eleven months of imports (even after its recent depletion in defending the Rupee). Similarly, India’s dollar debt is at a manageable level of around 19%+ of GDP, far lower than many Asian peers. India’s central bank enjoys high credibility in tackling inflation risks. These are positives for India. But there is one sticky spot for India. That is, India’s historical vulnerability from high current account deficit (CAD) that suddenly shoots up during such crisis times, esp. when crude goes beyond 100$ level amid weakening Rupee (as 80% of India’s energy requirements are imported). This has always been a potential landmine for India, esp. during Fed tightening cycle. Will this time be different?

To answer this, let us go back and look at the key difference between 2013 and now in terms of CAD vulnerability. Not to forget that India was clubbed as one of the countries in Fragile Five in 2013. The key macro difference between 2013 and now, comes from the differing trajectory of growth between crude and the software exports. Software exports in dollar terms have more than doubled in this period while crude imports in dollar terms have stagnated or marginally declined (even at this elevated level). Looking at the data points, software exports have surged from 70Bn dollars (appx) level in FY14 to 178Bn (as per Nasscom) dollars now (FY22) whereas energy imports (including LNG) have declined from 140Bn dollars level in FY14 to 130Bn dollars in FY22. This has brought in a huge comfort in easing our macro vulnerability from Oil risks. Today, software exports income covers more than the total oil bill by a factor of 1.3 times (even at this elevated oil price of 100$+) from a precarious situation in FY14 when oil bill was 2X of software exports income. This comfort is only going to increase multifold with the projection of over 300Bn dollar+ annual exports by 2025 as per Nasscom projections, given the huge super digitization cycle globally. Also, bear in mind how oil import as a share of total imports has come down from 30% level in FY14 to 21% level now (FY22). It doesn’t stop here. India’s focus under the current political leadership on renewables, ethanol blending, CNG infrastructure, potential leadership in green hydrogen, sourcing oil at discount from Russia etc. will further strengthen India’s macro architecture. Needless to say that India has come a long way in its macro stability esp. in its external financing and CAD management.   

In our view, this development will single-handedly change the contours of India’s macro risk profile. This change is the most under-debated and least understood across investment community. Add to this the Indian companies’ and banks’ rising credit profile on the back of huge cleanup of corporate and bank balance sheets. With NPA cycle behind, risk of potential accidents in the financial sector receding (such as ILFS in the 2018 tightening cycle), India’s macro seems to be among the few shining spots for global investors. This is probably the reason why India witnessed investments of near 34Bn dollars in the PE-VC (28% growth YOY) space in the Ist half of calendar year when FIIs were busy pulling out over 25Bn dollars from the equity markets. This emerging comfort on macro stability, progressive policy environment, Rupee’s relative strength and positive long-term growth prospects etc. probably could be the reasons for the rising confidence from domestic investment community and for the huge resilience Indian markets have demonstrated during the current crisis. Next few months will tell us whether this prognosis is right or wrong. Interesting times to watch out for!

This article of mine was published in the online edition of Economic Times (07/08/2022). Glad to share the link:

Will US Fed walk the talk on the stimulus exit?

If the news that the Fed has an ambitious plan for monetary tightening hasn’t reached you yet, you must be in a dwindling minority. Blueprint for a massive monetary exit has been out for a while now. It will be on a scale that world had not witnessed any time in the past. It has been set on a double R i.e. rate hikes and reduction in balance sheet size. If you are like me and wondering, is there a third R so that we can make it a nice sounding acronym of triple R (of course, no connection with the blockbuster flick RRR), yes, there is one which the Fed would like to desperately avoid in this game of tightening, that is, Recession.  What keeps the Fed awake late night is this, how to execute the first two “R”s rigorously without having to deal with the third R? Or will the worry of third R push the Fed to abandon its tightening plans half way? Let us dive in. 

Looking at the genesis of this inflation battle, there is a lot of merit in what some of the experts are echoing on Fed being far behind the curve on its fight against inflation. Unfortunately, Fed had seriously under-estimated the risk of how far the inflation will go. Initially, Fed assumed inflation will be transitory and it will come under control once the lock-down is behind. That assumption went completely awry because of Ukraine conflict and renewed Omicron related lock-down in China. Now, Fed has to make up its lost time by going for a lot more aggressive steps on its tightening to shore up its inflation-fighting credentials. One should expect an aggressive tightening now with an accelerated interest rate hikes and balance sheet shrinking. Beyond the already discounted aggressive rate-hikes, on balance sheet shrinking, in July-Aug, they are likely to start with $25Bn per month and accelerate to $90Bn+ monthly unwinding from second half. The plan is to complete the full run-down by end of 2023. That is a massive 1.7tn dollars of liquidity reduction.

Given the scale of this exit, there will be repercussions both to the asset prices and to the consumer demand. It is not going to be easy for Fed to run the full course. On slightest of the excuses, it might slow down or even reverse its course. Even if the Fed wants to go the full course, the political establishment may not have the will to face the consequences. Looking at the past cycles, one can see the familiar pattern of shorter down-cycles and longer up-cycles. There is a reason why down-cycles are shorter. One doesn’t need to look beyond Fed’s PUT (unconditional back-stop from Fed whenever markets go through trouble) for finding the reason. No sooner than the demand starts contracting because of Fed’s medicine, political pressure starts building up on Fed for easing up to start another round of stimulus. This has been the playbook in the past cycles. It is unlikely to be different this time too, though long-term solution lies in allowing the patient to go through the full medication to completely purge the excesses. Fed has been postponing this D-day for long. What will make the Fed to go for the final kill is a known unknown and should be left for a discussion for another day. For now, it is unlikely that the Fed will go the Paul Volcker way of hard landing. For the uninitiated, Paul Volcker was the Fed Chair in 1979 who took the inflation battle head-on and managed to vanquish it, though not without putting the US economy into a painful recession.  

Turning to inflation now, there seems to be some cooling off on the whole-sale prices. Freight prices are down on easing container shortages (except for crude containers). Supply chain issues no longer hit the headlines. Chip and fertilizer prices are down. So is palm oil price. There is a sort of crash in metal and commodity prices, but for crude. These lower prices will impact the WPI very quickly and then   transmit to consumer prices with a lag effect. To that extent, the worst is probably behind for the inflation, unless we have new surprises in store.

In all likelihood, with the worst is behind on inflation, Fed is most likely to use the incremental softening in inflation as an excuse to go slow on tightening by becoming less hawkish down the line. There is a good chance that Fed might opt to go with this politically palatable path, thereby postponing the eventual hard-blow to sometime in future. Where does it take us? If history is any guidance, we will see more of a zig-zag movement in rate-hikes/tightening rather than a full-hearted Paul Volcker like playbook. This would mean soft-landing without hard exit from stimulus. For equity markets, that would mean a shorter down-cycle and faster rebound. Though this could be the most likely outcome, no one can be sure about anything in the short-term as things are so volatile and uncertain on the inflation front. Given this, the best way to navigate this uncertainty is through a disciplined process of investing and asset allocation.        

Happy Value Investing!!!

Valuation of IT Stocks: Tactical Retreat or Irreversible Ramp-down?

Markets are magnifying machines. On the way up, it is all about what can go right as they magnify the greener pastures. On the way down, projection of pitfalls takes the primacy, as the magnification shifts to the murky side. Nature of the beast is such that it can never take a realistic or objective view. It swings between over-shooting and under-shooting. Since markets are born with the magnifying lens, it is investor’s job to wear the contra gear to keep off from the market’s fallacy.

One sector that is at the receiving end of this manic behavior is the IT sector. After two years of one-way run, stocks in this sector are getting brutally punished in the current downturn. Looking at the data points, in this calendar year, YTD, IT index is down by near 26%. In comparison, the Sensex is down only by 7.6%. In month of May (MTD) alone, the IT index is down by over 11%. If the fall at index level is 26%, one would fret to imagine the slump at the stock levels, esp. at the mid-cap end. In the pecking order of falling-from-grace, the one standing tall in this inglorious list is LTI (L&T Infotech) with a fall of over 47.8% followed by Mindtree at a touching distance. Even larger names like Wipro and TechM are not far away with a fall near 40% (all above data points as on 25th May).

One wonders, what has happened to all that sound-bites about super-digitization cycle, secular cloud transformation etc. that drove the valuations in this sector to stratospheric level in the last 2 years. Has anything materially changed or is it only a change of lens? Why is there a sudden rush among brokers to downgrade IT stocks? It started with JP Morgan and Nomura. Now, no brokerage wants to be left behind on this new down-grade rush. What explains this?

In our view, it is more of a valuation-reset than of any material change in growth projections or sector prospects. It is more of a narrative- following-price-action than the other way. As it happens always in the markets, price-action leads and then the narrative follows. Ironically, though the brokerages downgraded their target prices, none of them has downgraded their growth forecast for FY23. Even for FY24, they are less certain about the slowdown in tech spending. Downgrades are fast coming on fears of further price erosion.

So the next question to ask is, what triggered such a sharp price-action in the IT index relative to the Sensex and Nifty? For that, one needs to look at what is happening to NASDAQ stocks, because they are the lead indicators for the sentiment in the tech space. Taking that argument, probably, the rout in NASDAQ stocks explains the deadly derating that we are witnessing in Indian IT stocks. It was a common knowledge that the NASDAQ stocks were in a bubble zone and Fed action came as a much needed blow to prick it. As is to be expected, the meltdown in the NASDAQ had a massive rub-off effect on tech stocks globally. Indian IT stocks which were way off in valuations from their historical averages, had to bear much of the brunt from NASDAQ effect. Even after this sharp correction, the valuation in this sector is still far off from their historical levels and is yet to come to a fair valuation levels, esp. in the mid-cap IT space.

Having said that, none of the medium to long-term drivers for growth in IT space have gone away. Enterprises’ willingness to spend on digital and cloud transformation will continue to feed into above average earnings growth for the sector. But the growth in earnings is unlikely to translate into valuation growth as much of the stocks are still trading well above their historical averages. So in essence, nothing much would happen on the valuation front and the story going forward will be more of earnings catching up with the expensive valuation than anything else. That is the best-case scenario one can hope for IT stocks. To conclude, is it time for time correction for tech stocks? Only time will tell. Watch out for interesting times!

This article of mine was published in the online edition of Economic Times (05/06/2022). Glad to share the link:

When can FIIs return? Fed’s previous tightening cycle drops some clues

Taper is behind, but tightening is ahead. That is a subtle one-liner that captures what to expect from Fed going forward. On taper, US Fed stuck to its schedule. It began the program in early Jan and quickly finished it by winding down new bond purchases to zero by end of March’22. Now it is onto the next, rate-hikes and balance sheet shrinking. With monetary tightening in terms of balance-sheet reduction, expected to begin by Jul-Aug, it will not be out of place to peep into what happened in the previous stimulus cycle to get a sense of what lies ahead. Looking back, in the earlier Fed stimulus cycle (post Global Financial Crisis), though taper started in 2013, it wasn’t until late 2017 that the Fed really started taking serious steps to shrink its balance sheet. For the uninitiated, taper refers to winding down the size of the fresh bond purchases while balance sheet reduction refers to allowing those earlier purchased bonds to mature without repurchases. As is well known, the later has a much bigger impact on the market as the excess stimulus liquidity is pulled out of the markets by allowing the bonds to mature without repurchases. That’s how Fed scales down its balance sheet size after every stimulus cycle.

This time too, Fed has an ambitious plan to arm down its pandemic stimulus by planning to shrink its balance sheet by a sizable scale in the coming months. As per some estimates, it may, in all likelihood, start with 25Bn dollars a month from Jul-Aug, slowly accelerate to 95Bn and end the entire unwinding by 2023 December. If that happens, one is talking about taking out over 1.7tn+ dollars of liquidity out of the system in 18/19 months beginning July/Aug. To put that in perspective, it will be nearly thrice the amount that was pulled out in the previous cycle in 2018/19 i.e. about 660Bn dollars were pulled out as part of balance sheet reduction program from Feb’2018 and Aug’ 2019. 

By any scale, this is a massive unwinding. The world had not witnessed such a large-scale winding-down any time in the past. Of course, relative to what was pumped during pandemic (near 5 trillion dollars from April’20 to Mar’22), the scale of unwinding may not seem sensational. Given that the Fed’s balance sheet expanded from 4 trillion to near 9 trillion dollars in this period, a gradual reduction over the extended period is probably the best outcome one could hope for. Yet, markets are naturally worried whether FIIs will ever come back to emerging markets in this period when Fed is busy pruning its balance sheet. Given this huge overhang of liquidity challenge for the foreseeable time, it may seem realistic to assume that FIIs are unlikely to return any time soon, esp. after their massive exodus from India since Oct’21. For the record, they have pulled out over 23 billion dollars (net sales) since then.

It is precisely here, where a peep into the past liquidity cycle could throw some interesting insights into how FIIs behaved in a similar situation. Let us go back and look at the period between Jan’18 and Aug’19. In this period, Fed reduced its balance sheet by over 660bn dollars, by pulling out an average of 30bn dollars every month (exact amount varied from low of 16bn to as high as 61bn in different months). It helps further to split this period into two to understand how FIIs behavior changed over the time of the unwinding. In the initial part, as the Fed unwinding started, FIIs started pulling out in Feb’18 and accelerated their pace during the mid-year to reach the peak sometime in Oct-Nov’18. FIIs pulled out over 6.5bn dollars in this period. But, what happened post that was more interesting. Until this period, Fed’s unwinding was about 30Bn dollars per month, which it later increased it to 38Bn dollars per month from Jan’19 until Aug’19. Ironically, after the increased quantum of monthly unwinding from Fed, FII flows reversed into inflows and there was a massive net inflows of over 13bn dollars in the period between Jan’19 and Aug’19. Not to forget that in this period, over 300bn dollars was pulled out by Fed to reduce its balance sheet. So, what does one conclude from this?  Is there a co-relation between Fed’s unwinding and FII flows?  Of course, there is co-relation in the initial period, but not long after. More importantly, what is more interesting is that the inflows in the later part were twice the money that left in the initial part. Having said this, it is also important to keep in mind that no two cycles will be same. While the broad pattern may be similar, exact point at which the tide will change for FII flows could be difficult to predict. But what is more important to understand is that the FII money will come back much sooner than Fed’s timeline for unwinding. Not only it will be sooner, but it will be much larger than what went out. This is one reason why some seasoned investors are expecting a melt-up (bull- run) for Indian markets next year (2023). From this perspective, the current weakness, which is likely to continue for few months on account of Fed’s rate-hike and balance-sheet-shrinking overhang, is a great opportunity for long-term investors to lap up their positions, esp. on those sporadic panic days which will come often for a while.

Happy Value Investing!!!

This article of mine was published in the online edition of Economic Times (03/05/2022). Glad to share the link:

Indian market’s resilience amid FII’s ferocious exit: Should you rejoice or worry?

There seems to be no let-up in FII sell off in Indian markets. Daily sale numbers have been over a billion dollars for a while. This calendar year alone (Jan to March), the tally has trumped the trillion (Rs) mark by a wide margin. FIIs have pulled out over 20 billion dollars (net sales) since Oct last year. That is a staggering number. To put this in context, during March 2020 fall on the pandemic break-out, it was much less than 10 billion dollars. Going back, even during the global financial crisis in 2008, the numbers did not cross 15Bn dollars. What is happening now is more than an exit. Past sell-offs very much pale in comparison. It is an exodus on an elevated scale. Such an elevated exodus should have hit the investors extremely hard, if one goes by the nasty fall (both during GFC in 2008 and in March 2020) in earlier such occasions with much less FII sell-off? Not so. Investors, though bruised this time, not completely knocked out. Sensex and Nifty seem to have survived the FIIs scare with marginal losses. Year to date, they are down by a little over 1.5% in this calendar year, but not by a lot. Same is the case with broader markets with small and mid-cap indices scraping through the scare without a serious scar. They are down by 5.63% and 4.73% respectively. All these numbers are as on 25th March. 

The level of resilience that the Indian markets have exhibited, has seriously surprised even the most seasoned investors. Some of them are genuinely perplexed. If someone had told them in the beginning of the year that oil is going to be flirting with 130$ level amid a raging war in Ukraine and FIIs would be pulling out en-masse from emerging markets on Fed’s tightening and taper cycle, they would have expected Rupee and stocks to have got massively ravaged big time in India. But here we are now with Rupee barely budging and stocks surviving with slim losses.

There are two ways to look at this resilience. One view is that the domestic investors (both retail (through growing SIP book) and institutions who are playing a significant role in this resilience) are sold on India’s medium to long-term prospects. For them, the market is signaling a surge in economic and earning upcycle in the coming years. They expect the corporate growth and profit cycle to surprise significantly on reform-centric policy stability, China+1 trigger, super digitization upcycle, PLI based manufacturing scale-up etc. These investors belong to the most bullish camp. On the other side, the bearish investors believe that this resilience may give away to a much bigger fall if the domestic investors give up their support at some point on relentless FII selling amid growing fears that the commodity inflation may slowly seep into a structural stagflation. As per them, it is better to wait on the sidelines. Only time will tell which way the wind will blow.  

Here is where it is critical that the investors take the historical perspective. Else, one will get frozen into inaction clouded by the short-term uncertainties. It is important to remember that no macro risks in the past had a lasting impact beyond few quarters. If one goes back and look at the past macro challenges in the previous cycles, every macro event has been a clear buying opportunity in hindsight. Even in the worst global financial crisis of 2008, where everything was crumbling down like nine pins, the event did not last beyond three quarters for the markets.

The entire FII selling saga can be looked at from another view as well. That is, what would happen to the markets when much of the FII exit money comes back, which it usually does when normalcy returns? Even if half the money (10Bn dollars) comes back in a hurry, one can imagine

where that might take the markets to, esp. when both local and global investors are on the same buying side. Because of such various diverse views, markets seem to be in consolidation mode at the moment. Investors based on their investing horizon, should capitalize on this consolidation to build a structurally strong portfolio on bottom-up basis to reap exceptional returns over time. More so because markets seem to have more or less discounted the taper cycle and interest rate hikes from Fed. What is still not discounted is how far the risks from geo-politics can go. Can it become a wider conflict or will it get contained? What happens on that front will determine how markets will trend in the short-term. Needless to say that we are in interesting times.

Happy Value Investing!!!

This article of mine was published in the online edition of Economic Times (03/03/2022). Glad to share the link:

Is RBI’s repo rate losing its relevance?

In usual times, RBI sets the tone for interest rates through its benchmark repo and reverse repo rates. Market then takes the cues from these rates to decide its course on the yield curve. That is a typical text-book style functioning of bond markets. But there are times when market takes the mantle from RBI to set the direction for the interest rates. Currently we seem to be in one such times with RBI falling well behind the curve.

Since the time RBI reduced the repo rate by over 120bps during the period of Feb-May 2020, repo rate has stayed put at 4%. Same is the case with reverse repo with its rate ruling at 3.35%. But, of late, bond markets have refused to buy-into this stability. Looking at the ten year Gsec yield, it hardly paints a stable picture that RBI is projecting through its repo rates. Since last October, it has sharply moved up by over 100bps reflecting market’s staunch refusal to fall in line with the RBI’s accommodative stance. In fact, the yield went all the way up to near 7% immediately after the presentation of budget, before cooling off to the current level of 6.75%+ (as on 24th Feb) level on a surprising (and adventurous to many) dovish stance of RBI in its latest policy announcement post the budget.

There is a justifiable reason why markets are refusing to toe the RBI line. Besides inflation scare, latest budget has also added to the market’s ire on the borrowings. Here is how it stacks up.

From the equity market’s point of view, this budget has been a success, esp. if one goes by the stock market’s response in the days following the budget. It has lapped it up with all cheers, because of the budget’s focus on capex and growth. There is nothing in the budget fine print to upset the equity markets. Given the capex and growth push, the economy facing stocks in the broader space will do very well in the coming months. In effect, the budget is going to push further the economic momentum which the country is already witnessing on account of turn in capex, property, credit and export cycles. But if one looks at from the bond market’s point of view, the picture is not all that rosy.

If at all if there is any risk from this budget, it is likely to come from the bond market. During the budget presentation, there is one number which the bond markets weigh anxiously is the Govt’s borrowing level. This time, the large borrowing number in the budget (Rs 11.51tn net borrowings) for this year came as an unpleasant surprise to the bond markets. Bond markets were not prepared for this huge increase (from Rs 9.67tn last year). Also, the bond markets were expecting some kind of tax benefits to FPIs so as to expedite the inclusion in global indices. There was no such tax concession announced in the budget. Now that there is going to be delay in bond inclusion, market is expecting this large borrowing to put pressure on 10 year Gsec. On that expectation, the yield spiked by over 30 bps (in the days following the budget), only to cool off to a much lower level post the RBI’s dovish policy announcement.

Will this cool-off be temporary? Should one be alarmed by this large borrowings? One should certainly be worried if the packed-up borrowing calendar pushes up the ten year Gsec yield in a dis-orderly fashion. But, given the ultra-conservative nominal growth projections in the budget, this risk is unlikely to play out. In our view, Govt. will have a lot of headroom to manage the fiscal space, because of the extra-ordinary cushion in the budget numbers. Look at the nominal growth as per Budget. It has assumed about 11.5%. But this is an extremely conservative number. If one takes the economic survey as the cue, the real GDP growth as per the survey is likely to be 8.5% for FY23. If one adds the most likely inflation number, one will get a much higher number for nominal GDP growth. As a result, the Govt. in all likelihood, will have a lot more flexibility to alter the borrowing plans as the year unfolds, if the bond yields moves in a dis-orderly fashion. Even in the current year (FY22), Govt. had originally estimated to borrow around 9.67tn, against which the revised estimates are likely to be only 8.75tn. While the Govt. will have a lot of leeway in the managing the borrowing calendar as cited above, new geo-political risks such as Russia-Ukraine situation could play a spoil sport. If this conflict plays out for an extended time, it will have the potential to upset the inflation/interest rate dynamics for India from pressure points that are fed through elevated oil and commodity prices.

In summary, in the context of these evolving risks, it is rather surprising that RBI chose to keep the accommodative stance with super dovish tone in its latest policy pronouncements. Only time will tell whether RBI has been wise in its move or audaciously adventurous in its accommodative stance. Interesting times to watch out for!

This article of mine was published in the online edition of Economic Times (26/02/2022). Glad to share the link:

Spoilt for Choice?

What taper couldn’t do, geo-politics seems to have managed it. Markets are on a free fall and stocks are on fire sale, thanks to Putin’s adventures. How long and how far this correction will last is anyone’s guess. If history is any guide, going by previous war situations, stocks should bottom out quickly and start recovering in weeks, if not in days. Of course, this assumes that there is no escalation beyond the limited war that is currently on. Given the extent of deep cuts in much of the stock prices, the earlier predicament of buy-on-dip sentiment is likely to shift to sell-on-rallies for now. This would mean that the markets are likely to be under pressure for a while and the momentum may take some time to come back, though gradual recovery is not ruled out.

What is interesting to notice in this correction is the diverging degree of damage inflicted between growth (read expensive) and value stocks. The damage in growth stocks has been much worse than that of value stocks. Probably this is reflective of the emerging shift in underlying trend towards value in the coming environment of broader economic recovery amid tighter liquidity and monetary tightening.

But what is even more fascinating for India is, just when there is a visible turn in the economic momentum, one is faced with problem of plenty. With the increasing number of stocks hitting new lows (esp. in small and mid-caps), one is really spoilt for choices in this manic market. With the capex, property, credit and export cycles turning, the economic momentum has never been stronger for India. From the economic momentum point of view, this sharp correction has come at an opportune time for investors. As someone wise said, “All past corrections look like an Opportunity, while all present and future corrections look like a Risk”. If this is not an opportunity, what else will be? It is time to invest and add to the portfolio positions, not to time the bottom!

Happy Value Investing!!