Global Energy Crisis. What Triggered?

Is there a connecting story that runs across Coal, Natural Gas and Crude Oil shortages?

Lot has been written on the energy crisis and on the overall supply chain challenges in the post-pandemic world. But very few have focused on the connecting plot and much less on the root cause that triggered the energy crisis. We attempt to do that. Here we go.

One would have expected the world to emerge from Covid shock awash with oversupply, as would happen after any sharp and sudden slowdown. Far from that, the world is witnessing exactly the opposite, esp. in the fuel supplies. European and Asian gas prices are at an all-time high, the oil price is at a three-year high, and the price of coal is soaring on the back of energy shortages across China, India and Germany.

What went wrong and why?

It is fascinating to see the connection between seemingly unrelated events that have caused this crisis. Few would think that anything other than pandemic would be at the heart of the problem. But if one digs deeper, that is where one is led to. As one figures out, the crisis is not so much rooted in pandemic, but in geopolitics. It is another matter that this particular geopolitical issue of Australian coal ban by China got triggered by pandemic allegations.

Here is the sequence of events. All of a sudden, late last year, China announced the ban on Australian coal imports. It was a massive decision with huge implications for coal supply chain. Remember, China imported near 58% of its coal imports from Australia in 2019 and in 2020. This was like shutting the entire coal imports into China overnight. Since coal movements are freight intensive process, it is not easy and very time-consuming to reconfigure the shipping supply chain. So, what we ended up with was the huge pile of coal stocks in Chinese ports and a huge line-up of ships loaded with coal. As per some estimates, there are still over 50 loaded ships in Chinese ports in as late as September 2021.  

The natural question that arises is, if the coal ban started a year back, why didn’t the coal crisis start much earlier. One must thank the severe lockdowns in the first two quarters of this year for that. When the power demand came back in the third quarter with vengeance when the economy started opening up, depleting inventory in the supply chain started showing up in the form of surge in coal prices. In a normal low liquidity environment, the uptick in prices would have been manageable, given the short-term nature of the problem. Liquidity is anything but normal now. With momentum traders and punters (read hedge funds) awash with liquidity, anything that has reason to rise by X will be made to sky-rocket by 3X or 4X. It all boils down to whether one can spot and spin a story. That is all required in this highly speculative environment (high liquidity) to take any commodity to sky- high prices. That is the game hedge funds are good at, esp. when the liquidity taps are wide open. Look at what is happening to prices of many other commodities such as soda ash, palm oils, sugar and metals. No limits to where they can take the prices to.

Spinning story doesn’t stop with just coal. It goes beyond that, as it is easy for the hedge funds that trade actively in futures market to stretch that story to the so called substitutes. If natural gas is a substitute to coal and crude is a substitute to gas, why not spin them into sky-high orbits as well. That is precisely what investment banks like Goldman in collusion with hedge funds do. For evidence, one doesn’t need to look further than its recent report calling out for 110$ target price for crude oil. Of course, severe winters in Europe and gas supply hiccups from Russia to Europe couldn’t have come at a better time for the hedge funds that watch like hawks for the next prey.

In summary, what started off as a geo-political issue has morphed into a widespread global energy crisis by confluence of factors like shipping/container bottlenecks, surge in demand on opening-up, severe winter in Europe, Russia’s reluctance to supply gas to Western Europe, China’s stockpiling of domestic coal and gas reserves etc. Not to forget that the biggest role in this mayhem is being played by the hedge funds and investment banks in amplifying these short-term supply mismatch issues into a survival issue for many countries that are heavily import dependent for such commodities by jacking up the prices to unreasonable levels. But, if that is the nature of the beast (hedge funds), questioning their theatrics will be unwise.  

Of course, one might argue that the chronic underinvestment in fossil fuels driven by ESG and EV frenzy etc. could structurally keep the oil prices high (as argued by leading magazines like Economist). But the counter point is that these pressures are not new and have been there for long time if you go back in time (at least 4 to 5 years) and check. Current crazy trend is more of a “narrative following price action” than anything else. Only time will tell who is right.

Interesting times to watch out for!!

Turning point for Bond Markets?

Global Index Inclusion is set to change the contours of capital flows to India.

Budgets are an occasion to make ballistic statements. Though every such statement is dissected to the last word or digit by the frenzied media on the budget day, they are quickly forgotten in no time.  Historically, beyond theatrics, budgets have rarely delivered on the ground. As a result, over time, budgets have come to be seen as an exercise that is sweeping in scope, but short on specifics. But over the last two years, something seems to be on a serious mend, esp. after the current team took the control of the North Block. Of course, the initial slips were scary from this team. That refers to the regressive start in 2019.  After that slippery start, the team seems to have moved very high on the learning curve. One may be wondering why we are talking about budgets when the next one is many months away. Because the bond market story and budget 2020 are closely connected. Here is how. 

To attract capital flows in bond markets, budget 2020 announced a programme that allows foreign investors to buy unlimited amounts of select Govt. bonds via its Fully Accessible Route (FAR). This was a major policy shift through which the Govt. sowed the seeds for Global Index Inclusion. On 31st March that year, RBI quickly followed suit by notifying special series of G-secs under “fully accessible route”.

In response to the notification, the finance ministry tweeted: “This will substantially ease access of non-residents to the Indian Govt. securities markets and facilitate inclusion in global bond indices”

Now, more than a year down, that prospect looks close and real. Come 2022, Morgan Stanley says, India is likely to be added to global bond indexes which will bring one-off index inflows over $40Bn in 22/23, followed by annual flows of over $18Bn in the next decade. That should be music to ears for long-term India Bulls.

Looking beyond the headline-grabbing billion dollar flows, we feel, this will have far-reaching implications in three major macro areas as listed below. 

Cost of Capital:

It is a well-known fact that India’s public debt to GDP is at an elevated  level compared to other EM peers. It is at over 85% of GDP. With growing fiscal pressures, Govt. borrowings are unlikely to soften anytime soon. So far, the public debts have been primarily funded by Indian banks via the SLR (Statutory Liquidity Ratio) mechanism. With significant rise in Govt. borrowings over last few years,  RBI had to come to the rescue in many auctions because of surge in supply of Govt. papers. This had meant the yields have remained higher than policy rates (spread of about 2.8% on 12-month trailing basis). This is precisely where the index inclusion will do its magic. With new demand for papers from the foreign funds (index-tracking funds), yields can track the policy rates much more closely and thus bringing down the overall cost of capital structurally. As per some estimates, the foreign ownership of G-secs could rise to over 9% by 2031 from the current level of 1.9%.  

Currency:

India has historically run a current account deficit of around 1.8% of GDP (going by last 10 years). This is unlikely to change in the coming years. Though, handling BOP (Balance of Payments) has never been a challenge because of FPI and FDI inflows, opening up India’s bond market will help diversify the sources of capital in a phased manner and thus bringing more stability and strength to the Indian Rupee. Most of the brokerages now expect the overall balance of payments to remain in surplus in the range of 1.5 to 1.7% of GDP in the next 10 years because of index inclusion. This means that we may continue to see a surge in forex reserves.

Investments and Capex:

As highlighted earlier, India’s public debt, so far, has been primarily funded by Indian banks via SLR mechanism. This meant that public spending and public investments have been crowding out private investments. Now, with the opening up of G-secs to foreign funds, it creates a possibility for RBI to reduce the SLR window in the future and thus making more capital available for private investments. For capital-starved countries like India, this means a huge potential for capex driven structural growth.

In conclusion, more than anything, in opening up the Govt. securities to foreign investors, one sees India’s growing confidence in the overall macro stability in terms of price (inflation and currency), fiscal (Govt. spending) and monetary policies (interest rates). In our view, this is the biggest takeaway from this yet another reform measure from this administration. In the same breath, it is also important to highlight that how this opening up will bring much required discipline to the current and future administration/policymakers by rewarding or punishing pro-growth or regressive policies respectively. Future Governments will have to think not twice, but many times, before stepping onto any slippery (regressive) policies. That is a huge structural positive for long-term growth. Interesting times to watch out for!!

This article of mine was published in the online edition of Economic Times (02/10/2021). Glad to share the link: https://economictimes.indiatimes.com/markets/bonds/turning-point-ahead-for-indias-bond-market-whats-in-it-for-you/articleshow/86683750.cms?from=mdr

Windfall from Venture Capital (VC) for the Economy?

Start-up Capital has surprisingly emerged as the new sparkle for stimulating the old economy

In July, something sensational happened in VC funding. For the first time in many years, VC investments in India outpaced that of China. As per Bloomberg report, Indian start-ups raised nearly $8Bn in July while funding to China fell to below $5Bn. Is it a one-month wonder or early signs of things to come? Only time will answer that question. Nevertheless, it is an important milestone for Indian VC investments. Though the jump in July numbers could be coming from the catalysts of China tech crack-down and Zomato’s bull run, the broader trend in VC-PE investments has seen a sharp uptick in 2021. Year to date (July end), this number is up by over 50% at $36Bn (ref below chart). If the trend continues, for the first time ever, VC-PE investments could be closing near $60Bn this year. That is 2% of GDP. Not to forget, it was less than 1% in 2017, not very long back. What is more exciting is, within the VC-PE flows, share of VC has been sharply moving up as can be seen in the chart.   

So far so good. There is something more interesting in terms of what this change in trend could do to the broader economy. That is the topic that is more riveting. All capital flows don’t come in same colors. Some come for capital appreciation (FPIs come to mind), some come for capex investments (FDIs) and some come for “burning”.  This last category where much of VC-PE investments belong, is an interesting one, as it contributes to the growth in the broader economy by boosting spending (burning), unintended though.

Spurt in ad-venture money has accidentally addressed one of the long-standing demands of India Inc. Let me explain. If you rewind back to March 2020 when the pandemic began, one of the common complaints from the captains of the industry was that India stood out indignantly as the country that came last on the stimulus-stringency index i.e. least Govt. stimulus with the most stringent lockdown. Basically clamoring for stimulus to boost spending. Industry bodies had a number also in their heads. They wanted at least 2% of GDP as stimulus. As usual Govt. turned its deaf ears, not surprisingly.

But someone at the top (not the Indian Govt.) must have heard the cry. Else, how does one explain the bounty that is coming from the “burn” capital and that too exactly matching up to what they asked. Jokes apart, it is a serious stimulus that is on the way that can boost demand by fueling spending. Much of the money raised by start-up eco-system goes towards technology up-gradation, hiring and ad spending. Credit should go to Zomato’s stunning debut and to chaotic Chinese tech crack-down for this unexpected windfall. The most exciting part is that it is just the beginning and we may not have even scratched the surface in terms of potential given the abundance of tech talent and robust start-up eco-system in the country.

It doesn’t stop here. Fundraising from IPO market is likely to scale a new peak in this year. The previous high for the IPO market fundraising was 2017. In that year, Rs. 75K cr+ was raised from the primary markets. With over Rs 55K cr+ raised already in this year, 2021 may end on a new high for IPO fund raising. Though stimulus effect from IPO is not much, as most of the primary market action is towards Offer-For-Sales (Promoters/Investors exit), the rub-off effect on QIP (Qualified Institutional Placement), Rights and other fundraising activities, tends to positively impact the overall investment demand in the economy.

Add to this the prospect of huge earnings momentum that is set to play out in the coming years on favorably turning macrocycles such as credit, property, export and capex cycle turns, one can’t help but to build a bull case for the economy. Interesting times to watch out for!!

This article of mine was published in the online edition of Economic Times (01/09/2021). Glad to share the link:https://economictimes.indiatimes.com/markets/stocks/news/more-startup-capital-for-india-than-china-is-that-a-reason-for-markets-to-smile/articleshow/85829317.cms

Is Strong Evidence Emerging on Capex-cycle Revival?

Capex cycle peaked in 2011 and since then, it has been a decade-long wait for its revival. Every year since 2015, there appeared new reasons year-after-year for its revival, only to be let down by one or the other mishaps. Some, self-manufactured like DeMon or ill-prepared GST launch and some have been the force-majeure like Pandemic. It has been the story of “almost there, yet never there” kind for the capex revival. Sample this, “The upturn in the current investment cycle, which began in 2016-17, is estimated to last up to 2022-23 when the investment rate is estimated to increase up to 33 per cent from the current level of 31.4 per cent.” This was from none other than RBI when it quoted its study in the middle of 2018. That hope was belied by the sharp slump in 2019 that got triggered by the most ill-conceived and regressive budget then. Conversations of revival is once again back on the center stage with utilizations going up in much of the core industries. Will 2021 be any different? Let us find out.

First, why is it that there is a sudden rush to callout the capex turn? What has changed now? One reason could be that in India’s capex cycle, never before, we had the combination of right Govt. policies (PLI), concessional corporate tax, commodity super cycle, China pushback (China-plus-one and de-risking Chinese imports), high industry utilization and low interest rates coming together to conspire a big turn in the investment demand. Also, China’s stringent environmental controls couldn’t have come at a better time, indirectly boosting domestic manufacturing esp. in chemicals, metals and steel. While some of these factors came into play in isolation in earlier years, like low interest rates and high utilization etc., it is for the first time that all of these are coming together, lending credibility to the optimism now. We did hit high utilization numbers (above 70% level which normally triggers the capex turn) at least on two occasions in the last

few years which later fizzled out because of the subsequent slump in the economic activities. But this time, the powerful combination of various factors could end up pumping the spirits of the corporate chieftains to unlock their investment plans.

But, still, is it not all of this is in the realm of speculation? To back this up, one needs to look at what corporates are actually doing on the ground. This is where, one gets to see evidence that this time, it could be really different. Sample the expansion plans announced recently by leading companies in the core sector:

  • Outlay of over $15Bn by top steel companies
  • Expansion projects worth $5 Bn by leading cement companies
  • Over $15Bn commitments in new projects by Oil & Gas companies (20% of this has already been spent in the first quarter itself reflecting the urgency in expansion)
  • $10Bn investments in the power and coal
  • $5Bn outlay in non-ferrous sector

It doesn’t stop here. If one adds the activities in the renewables, ports, gas pipelines and chemicals, outlays this time look promising and they can materially turn the cycle. More so, if the additional support comes from the turn in the credit cycle. With NPA clean-up nearing its end and with rising capital buffer in balance sheets, Indian banks are getting ready for the new credit cycle. Further, asset monetization through InvITs (Infrastructure Investment Trusts) by PSUs and other entities will go a long way in releasing funds for these entities to start fresh capex cycle. After power, the country’s oil PSUs would now float an InvIT as part of the asset monetization exercise and raise funds for new investments. For the Government, building gas pipeline infrastructure through this route is a key priority.

The reason why we are keen to decipher the dynamics in capex cycle is because of the significance it has on the overall economic growth. Solid turn in investment cycle can feed off into consumption demand which in turn can fuel investments further in a self-fulfilling fashion to set off a virtuous cycle for the economy, esp. when the cumulative impact of past structural reforms (IBC, GST, RERA etc.) are about to play positive for the macro. Such is the power of capex cycle.

Only time will tell us whether we are at the cusp of another boom in the capex cycle. With global companies looking at India as a serious option to derisk their supply chains, time couldn’t be more right for the cycle to turn, esp. when China is ready to extend unsolicited favors by increased tightening of its environmental norms and by resorting to export controls on steel, metals etc.  Interesting time to watch out for!

This article of mine was published in the online edition of Economic Times (30/06/2021). Glad to share the link: https://m.economictimes.com/markets/stocks/news/view-are-we-on-the-cusp-of-another-capex-boom/amp_articleshow/84974979.cms

How do you stay invested when the tide is expected to turn turbulent?

Since the beginning of pandemic, outcome from Fed meetings has been a predictable affair. Rate reductions and accelerated bond-buying had become the regular feature of such meetings. No surprises. Predictably, markets got used to that luxury of lavish liquidity and they in turn prospered. Globally, reflation trade took the center stage to push markets to new highs. Fast forward to June meeting, things are not as certain now. In this meeting, Fed signaled that they may raise interest rates in 2023, sooner than what was earlier forecasted.

In this backdrop, though markets initially reacted to the Fed’s surprise, soon regained its stability to look forward to another milestone. With markets climbing each wall-of-worry to break new levels, esp. the broader ones in India, the question of “To stay invested or not” has come back to hit investors with its full force, esp. when the memory of March brutal fall of 2020 is still fresh. As investors grapple with this challenge, esp. in sensitive small-cap allocation, we try to examine this in this piece, in as much objective manner as possible, giving enough allowance for our category and anchor bias (being a small-cap focused fund). Here we go!

First, the questions that keep investors awake in late nights…

What if, in the next Fed meeting, they advance the timeline further for interest rate hikes? Not to forget that they advanced it by a year in the recently concluded Fed meeting. What was earlier scheduled for 2024 got advanced to 2023, citing inflationary concerns. Will this mean a quicker unwinding of bond-buying program, cryptically referred to as “tapering”?

What if, the expectation on quicker tapering leads to unsettling of markets, given that the market crash that the taper tantrum caused in 2013, still haunts much of the investment community?

What if, oil starts to boil triggering inflation and fiscal worries for India? And, so on…

Best way to examine above questions is to ask counter questions and check where it leads us to. Now let us flip the coin from wall-of-worries to hall-of-hopes (not empty ones)!

What if, Fed prepares the markets well this time for the eventual rate hike/tapering unlike 2013 when it was a big surprise? Going by markets’ anticipation of rate hikes by late 2022 or early 2023 (and tapering by late 2022), that job is being well done by current Fed chairman. By far, one thing is clear. This time, markets are preparing ground for the eventual normalization of monetary policies. Nasty surprises are unlikely. Not to forget that even in the 2013 mayhem, within six to eight months, markets were back on course to make new highs (in 2014) and US bond yields which spiked initially from 1.8% to near 3%, came back to sub-2% in early 2015 on Fed’s back-stop. Basically, one can count on Fed for its intervention, if there were to be any dis-orderly adjustments or manic melt-downs in the markets (notoriously termed as Fed’s Put). One might argue that though markets recovered post 2013 tantrum, in that nasty six months, emerging market currencies and bond markets were bruised to result in some long lasting pains for some countries. But such a painful plot is unlikely to play out this time, given the strong balance sheets and dollar reserves of central banks in emerging markets (remember India is sitting on all-time high forex reserves of $600bn+).   

On the question of oil, as seasoned investors would know, it is unlikely to structurally stay high given the EV push, threat of swing production from shale gas, OPEC’s normalization of production cuts and upcoming Iran deal. That said, in the short run, it might test the nerves of the investors with speculators driving the prices higher.

But the bigger “what if” question is on India’s long-term prospects. This is where the focus has to be for the investors instead of fretting themselves with all those macro distractions which we had diligently detailed above.

What if, the current low credit-cum-capex cycle coupled with low corp. profits-to-GDP, sets off a huge expansion in the domestic economy in the coming years? That is, break-out in capex cycle, amply aided by credit cycle turn (with NPA clean-up nearing end), can fuel the next cycle of economic expansion with capex and consumption feeding each other in a virtuous manner. Hardly can anyone rule out that prospect, esp. when India’s investment cycle has gone through a decade-long decay. Early signs of such a turn are already visible, if one goes by the capacity additions that are being planned in steel, cement, power, ports, renewables and other infrastructure related sectors. In this context, it is worthy to note that the steel industry is operating near 100% capacity as we write this. Cement is not far behind. For the first time in many years, one notices big-ticket project announcements from India Inc. in a fast-paced manner.

On the GDP front, India hasn’t done much for last 5+ years. One or the other disruptions (mostly self-made and manufactured) caused the GDP growth to slip in a secular manner in this period. Looking at in a positive way, five years of growth is what we need to catch up. That is a big tailwind for the economy (or call it cumulative pent-up demand of last 5+ years) and it will lead to all round resurgence once we are through with the pandemic waves. Growth will surprise across the spectrum, esp. if one factors the positive impacts from past reform actions like IBC/GST/RERA/DBT/MPC and from the ongoing initiatives like PLI, Privatization, Asset Monetization etc.

Here we come to the final question. When such brilliant prospects are on cards for Indian economy, would anyone tinker their allocations, esp. in the broader markets, fearing short-term jitters that may or may not happen when Fed starts tightening? It should be amusing to anyone, when seasoned investors start cutting their small and mid-cap allocations in the name of rationalization just when the broader economy is about to take off. That is a real pity, if these actions are being taken more out of fear of what happened to broader segment in 2018-20 bear cycle (out of recency bias). Counter-intuitively, coming out of the bear market should be the biggest tail-wind (cyclically speaking) for the future prospects for the broader space. Current strength and resilience in small-caps amid ferocious second wave, in a way, is hinting at a much stronger action in the future in this space, something similar to what markets saw in the 2014 to 2018 upcycle. Investors should be prudent enough not to miss out on these remarkable prospects for the broader markets, in the name of rationalization (of small-cap allocations etc.) or fearing short-term corrections which are part and parcel of any structural bull market.

Happy Value Investing!!!

This article of mine was published in the online edition of Economic Times (30/06/2021). Glad to share the link: https://economictimes.indiatimes.com/markets/stocks/news/how-do-you-stay-invested-when-the-tide-is-expected-to-turn-turbulent/articleshow/83988714.cms

Growing opportunities for listed content players in Digital Marketing!

Digital marketing is no longer a novel idea that is limited to few innovative enterprises. Everyone across the spectrum (including the companies from the small and medium segment) is seriously looking at online presence and is willing to spend for that presence. As per industry estimates, digital ad spend which is already at a high growth pace, would gather further momentum to equal and move beyond TV ad spend in the coming years. In FY22, projections are that the digital ad spend would be near 40% of the total ad spend i.e. near $4Bn (for digital ad spend). Such is the scale of market opportunity for any digital ad solutions company. Add to this, the flurry of launches in the ad-supported OTT streaming space that is likely to take the digital advertising to the next level. For e.g. Amazon has launched an ad-supported, free video streaming service called miniTV. This is currently only available to Indian audiences. It is easy to guess, more would follow. With targeting capabilities and personalization, which TV medium can’t provide, ad-supported streaming services are likely to boost digital advertising by offering innovative services to advertisers.

As it happens with any industry that is new and growing beyond boundaries, industry participants, esp. the incumbents fail (often blinded by their legacy interests) to grab the emerging opportunities leading to new entrants from outside.  Digital advertising saw a similar trend in the initial phase. It was not the ad agencies that grabbed the opportunities thrown by boom in digital ad spends. It was tech companies that foresaw the tectonic shift and made an early bet. Of course, tech companies got the head-start because of the need for tech expertise in terms of SEO (Search Engine Optimization), App development and Analytics etc. in the digital universe. But nothing stopped the ad-agencies to acquire or outsource the tech expertise to address the growing digital needs of their incumbent clients.  

But, as it turned out, tech companies went only so far. While they were good at SEOs, apps and analytics, they were found wanting when it came to the crucial part of the digital campaign i.e. content. Digital advertisers who realized this shortcoming, started building the content team in-house relying on the digital marketing companies only for the tech expertise and for running the campaign. As a result, it evolved more as a hybrid model, as industry insiders like to say. Because of this limitation, industry grew to become a very fragmented one with large part of the market still addressed by multitude of marginal players, though predominantly from tech. side i.e. the top player controls less than 5% of the market as per industry estimates. For the advertisers, the other pain point was lack of integration between various forms of campaign i.e. digital, traditional media and the on-ground cover. In addition to building skills for content in-house, the advertisers had to swallow the pain of integration by building captive expertise on that.

Because of market’s this stunted evolution, there emerged a huge need for an integrated digital market player who could offer multimedia content across social media platforms with the required tech expertise. It will be an icing-on-the-cake for advertisers, if the same player could also offer on-ground cover as well as reach thro’ traditional media. Advertiser’s wish list did not end here. It will be an added help if the player could also provide reach thro’ captive social media channels that has high followings in terms of views or subscriptions. For large advertisers, if someone with captive platforms can offer such an integrated ad solutions, they will lap it with both hands.

Some companies who have got access to content are sensing a great opportunity here. Take for example, radio companies. With structural headwinds in their mainstay radio business, some of them are being pushed into building content team to tap into the emerging opportunities in the digital advertising solutions. More companies from the media and content business are likely to follow this trend in the coming years. Interesting space to watch out for.

Market cycle: Tide turning for stock-pickers?

“When we are on the river of life, it is more than likely that we will hit a few rocks”.

Last time when active funds had their adrenaline running, was way back in 2017. Active managers and stock-pickers had a stellar time then, with market providing ample opportunity for alpha generation. But that dream run abruptly ended in early 2018.  It has been a secular slide since then for all the star managers. Broader markets (small and mid-caps) went through a painful period for the next 3 years. That bruise in the broader-markets left a bitter scar on active managers across the spectrum of funds, including alternate funds like PMS and AIFs. Of course, during this slide, driven by media’s mercurial narrative, active funds were quickly dumped as dreadful debris, while passive funds became the panacea for all ills in the industry. That is about to change now. Tide is turning in stock-pickers’ favor.

Where are we in the market cycle now? The answer to this question will tell us what lies ahead. In general, the market cycle mirrors the economic cycle, but with a significant lead. In the initial part of the cycle, action is more in the larger categories, with huge front-loaded returns coming from the Nifty/Sensex. As the visibility improves for the economic recovery, action shifts to the broader markets. At this stage, with significant part of returns already front-loaded in the large-cap space, Nifty/Sensex gets into consolidation phase, with momentum moving into broader small-mid-cap space. Currently, with economic recovery gathering pace and momentum (looking beyond the Covid surge), we may be entering into such a bull phase for the broader markets. In this stage of the cycle, markets’ proclivity turns to “value” and it starts rewarding bottom-up stock-picking strategies in a big way. If one draws comparison to the previous 2014-18 cycle, one can see a similar pattern that played out then. Post the initial phase of momentum for large-caps in 2014-15, the action shifted to the broader small and mid-cap space in early 2015 to result in a bull market in that space that lasted for three long years, which eventually topped-out in early 2018. One can’t rule out a similar seductive run for small and mid-caps in the coming months and years. All early signals are out there for such a breakout in the broader space. If resilience in small-cap space in spite of scary headlines on Covid is anything to go by, market is on course for a major breakout, esp. in the broader segment. All that the markets need for that breakout, is the visibility of the some sort of peak in Covid cases.      

That is fine, but, what about the hit on the economy, esp. at the bottom-end? Is it not the small and medium segment the worst hit from the Covid pain? How could one build a bull case for small and mid-caps in such a scenario?

These are very valid questions. Below points could offer the required hints to the answers.

  • For a moment, let us look at what happened during first wave and its impact on the economy. India had one of the most stringent lockdown and the least supportive Govt. stimulus. Such a combo, predicted renowned economists, would lead to a dramatic contraction in the economic activity for long time to come. But what happened on the ground, post first wave, was not just a rebound, but a huge resurgence. The strength of the recovery surprised even the most optimistic projections. It was hard to attribute that only to pent-up demand from pandemic, as the recovery continued well into March’21 (seven long months). As some economists figure out now, in hindsight of course, the strength could be because of cumulative latent demand over last five years. The reason being, India had a painful period of slow growth in the last five years. Much of that was manufactured one. While DeMon did the damage for 2016, teething problems from tax reforms (GST) ruined 2017. Just when the economy was coming out of these two shocks, another blow came in the form of regressive budget in 2019. If they weren’t enough, here we are in 20/21 hit by a deadly pandemic. So five years of growth is what we need to catch up. That is a big tailwind for the economy (or call it cumulative pent-up demand of last 5 years) and it will lead to all round resurgence once we are through with the pandemic waves. Growth will surprise across the spectrum, esp. when one factors the positive effects from past reforms like GST/RERA/DBT and from the ongoing reform measures like PLI, Privatization, Asset Monetization etc.
  • Of course, pandemic has hit certain sectors very hard. Some of them have been hit structurally and they will find it difficult to recover or even to survive. Sectors like hospitality, aviation, hotels etc. may face longer term challenges. Barring those few, the outlook for the broader economy in terms of consumer and investment demand looks quite robust. As a result, markets will provide ample bottom-up opportunities for investors.
  • More importantly, on the positive side, pandemic seems to have achieved what DeMon and GST couldn’t. That is, driving the big market shift from unorganized to organized. This is leading to major market share gains for organized listed players across the spectrum, from large caps to small-caps. Listed companies with strong balance sheets and financials (including the ones in small-caps space) are likely to benefit majorly from this consolidation trend. Add to this, the other positive side effects of the pandemic, that is, global push-back on China (China+1 strategy) and serious push in India to derisk Chinese imports. These favorable developments are likely to give a major boost to domestic manufacturing.

Convinced? Yes, prospects are brightening for broader markets. It will be busy time for stock-pickers and active managers in the coming months. If they get it right, they will be rewarded rich. Shine is likely to be back on star managers. The risk to this optimistic call could come from any abrupt reversal of monetary easing by US Fed (tapering of quantitative easing or cutting down on bond buying program). The probability for such a possibility is remote though. Interesting times to watch out for.

This article of mine was published in the online edition of Economic Times (14/05/2021). Glad to share the link: https://economictimes.indiatimes.com/markets/stocks/news/trying-to-junk-active-equity-funds-think-again-tide-is-turning-for-stock-pickers/articleshow/82626136.cms?UTM_Source=Google_Newsstand&UTM_Campaign=RSS_Feed&UTM_Medium=Referral

Print Media Stocks: Deep Value or Value Traps?

At current valuations, leading stocks in this space are trading at a hugely attractive free-cash-flow yield. Will they remain there languishing? Let us dive in.

It is often said that one can learn lots about investing by reading things that have nothing to do with investing. Though sounds counter-intuitive, these wise words carry a lot of weight, esp. in contra strategies.

Applying this logic, one would presume that the best way to understand what will happen to print media stocks is to start by looking elsewhere. Crude oil may seem like an odd place to start the search. But, strangely, what is happening to crude oil prices over the last one year may have some concrete clues to our main story.  

Let us begin with the end. The end of oil. That was the narrative in April 2020. Lockdown-triggered demand destruction was the key factor that put pressure on oil price during that time. That much was understandable. But where the market went manic was when it started to stretch its imagination wildly on how these cyclical challenges will grow mysteriously into long-term structural ones. Of course, market got clouded by the constant narrative on how the new trends like work-from-home, less out-door drive and falling air-travel etc. will continue to be an overhang for the oil demand. As in the earlier occasions of demand slump for oil, elevated EV buzz and Shale-as-swing-producer phenomenon miraculously enter the narrative to amplify the price action. On the downside of course. While the spot price crashed to all the way down to sub-18$ level, in the futures market, the madness led to an unthinkable situation. Yes, for the first time in the history, one witnessed negative prices in the oil contracts.  

Fast forwarding to 2021, did the oil price play to the script that was so sensational back then in April last year? Of course, no. With price action swinging to the other side of the pendulum now (Brent trading near previous high of 70$), the script too (narrative) has shifted to the other side of the spectrum i.e. hybrid workspace (against WFH), demand recovery (against demand slump) and charging infra/high TCO (Total Cost of Ownership) constraints of EV (against unqualified EV penetration).

After all, the price action will lead, and the narratives will follow.

Now coming to the main story, the cosmic dance of price action and the narrative dazzle much more colorfully in the print media stocks. Valuations are dirt cheap in the print stocks, esp. in the national Indian language (Hindi) players. When the stock prices started sliding on lock-down related demand slump last year, narratives followed to amplify the price action. Market’s way to build a narrative that suits the falling price action, is to pick some of the long-term structural challenges in the industry and superimpose them into the cyclical challenges – falling ad revenues in this case. This is how amplification happens. It was EV and Shale-gas for crude oil. For print, it is digital and global fall in print readership. Neither digital nor readership challenges in the developed markets are new. It is at least half-a-decade old story. We have been there before. In early 2015, when the ad cycle was negative, stock prices were lower on similar reasons. When the ad cycle turned in the later part of that year, favorable narratives followed which led to doubling of many stock prices in the print space. Something similar can’t be ruled out in this cycle. Trigger is likely to come from the turn of ad cycle. Watch out. It could be as early as next few quarters.

In addition to this, few other pointers (listed below) if they play out, rerating in print stocks, esp. the Hindi newspapers, could surprise significantly on the upside.

  •  Based on Australian model, many countries are set to adopt legislations to force digital companies like Google and Facebook to pay for the news content. With US and Europe following the foot-steps of Australia, India will not be far behind. This is likely to change the news economics very favorably for print media, esp. for the larger ones. It is question of when, not whether.
  •  Skeptics of print-media prospects in the country, cite the structural fall in the readership globally (esp. in developed countries) as the evidence for what is likely to happen in India too. However they miss few important metrics that are unique to Indian context. Low-cost door delivery, ultra-low cover price (on high economy of scale), high illiteracy levels esp. in Hindi belts etc. that are unique to India, will ensure that the vernacular readership will continue to grow in mid-single-digit for a foreseeable time. Needless to say that the reasonable growth in readership will drive stronger growth in advertising.
  •  Given the emerging trend of falling TV watch time in the premium segment (on rising OTT viewership), some of the TV ad spend is likely to shift to print, esp. the ones that are targeting premium segment. This is because, much of OTT service is on subscription based with no opportunity for advertising. While there is upside here for the leading print media companies, quantum is not clear.
  •  Potential for sharp increase in digital advertising and portal subscription revenues as the print media starts making users to pay for digital content. Early signs are already visible for some of the leading dailies.

With print media stocks priced-to-bankruptcy (stocks pricing-in all the risks), even modest recovery in ad spending has the potential to trigger a sharp uptick in the stock prices, esp. when the narrative swings to the other side of spectrum, amply aided by above listed ammunitions.

Time is not far away when print media stocks (Hindi) get the due attention and start getting rerated. It is time to dive into these deep-value stocks for rich dividends in the medium term. Herd follows the narrative while the contrarian follows the cycles.

Follow the cycles (mis-pricing), not the narrative for the superior results in investing.

Happy Value Investing!!!   

This article of mine was published in the online edition of Economic Times (12/02/2021). Glad to share the link: https://economictimes.indiatimes.com/markets/stocks/news/print-media-stocks-deep-value-or-value-traps/articleshow/81772319.cms?from=mdr

Tantrum without a Taper!

Should we be worried on the rising US bond yields?

Markets have an uncanny way to come up with a catchy phrase that sometimes gains so much adulations that it becomes a defining one. In early 2013, when Fed signaled that it is going to stop buying bonds (reversing quantitative easing) in a phased manner, 10 year yield surged, equity markets tanked and currencies crumbled. This tumultuous turn in the markets came to be known as “taper tantrum” subsequently. This phrase became so catchy that it stayed in market’s dictionary to define any yield related jitters in the equity markets, esp. the ones that get triggered by Fed’s policy priming.

Since the crash was brutal across the asset classes in 2013, it left a severe scar in investor’s memory. As a result, any abnormal movements in US ten year yield, even those not caused by Fed policy stance, started to leave a severe dent on equity markets because the rising yield brought the fears of 2013 brutal crash. Currently we may be going through one such phase. Yields in US are moving up, not because Fed has changed its policy stance (of aggressive bond buying), but because of expected rise in supply of Govt. papers on hefty fiscal stimulus from the Biden administration. Basically yields are moving up not because of “taper” worries (gradual reduction of bond buying by Fed), but because of supply worries. But markets, weighed by 2013 fears, are witnessing wild swings. This is more like tantrums without a taper.

Now, let us see why these taper-less tantrums are a passing phase of the bull market and as a result, why investors need not be overly concerned with the rising yield. To understand this, let us look at how historical data points weigh, esp. in the 2009-12 bull cycle. If one plots the ten year US bond yields from start of the QE program in 2008 (starting period of Fed’s bond buying to support the markets) to the point of taper in 2013 (when Fed signaled reduction of bond buying), one would witness an interesting pattern (ref. below chart).

In 2008, the Fed launched four rounds of QE (bond buying program) to fight the financial crisis. It began in Dec’2008 and lasted till early part of 2013 when Fed started the process of unwinding (tapering). In this period, the ten year yield fell from near 4% to over 1.5% on aggressive bond buying from Fed. As it always happens with any trend, it was not a straight and linear fall. It was with many intermediate tops and bottoms. But as a trend line, it was down all through, though there were many false alarms (rising yield) in this period.

Now, coming back to the present, occurrence of similar intermediate tops and bottoms is par for the course in the journey of Fed’s yield management and need not be a cause of worry for investors. From this perspective, the current rise in the ten year yield (from 0.9% level in Oct to over 1.50%+ as on 26th Feb), is likely to be a passing phase than a defining one, though have created jitters in the market. It is more of tantrum without a taper akin to the one in the chart. Going by the signals coming out of Fed, tapering is unlikely to start unless growth returns to its potential rate of 3% or inflation spikes to well over 2%+. Neither of these is likely over the medium term (over two years+), though one can’t be too sure about anything in the financial markets. While one should watch out for either of these two scenarios, this is not time for bulls to lose grip as liquidity is unlikely to reverse any time soon. Prospects for action in broader markets (esp. in India) are brighter as the rally is set for the next leg, though rising yield in India will keep a check on the momentum.

This article of mine was published in the online edition of Businessworld. Glad to share the link:http://www.businessworld.in/article/Tantrum-Without-A-Taper-Should-We-Be-Worried-On-The-Rising-US-Bond-Yields-/18-03-2021-384181/

Bond Market Blues (Supply Concerns)?

Market View:

For the equity markets, budget had two effects. One, the direct effect and the second, feed-through effect via bond markets. First one has been hugely positive as can be seen from the stupendous rally in the indices since the presentation of the budget. On the second feed-through effect from the bond space, market is facing some uncomfortable reality check in terms of rising yield. RBI’s extraordinary liquidity measures thro’ the pandemic period kept the yield low and the trajectory down. Though RBI has not changed the liquidity or accommodative stance, pressure on the yield is coming from the supply side fears as the Govt. is planning to step up its spending thro’ extra-ordinary fiscal measures by loosening its purse strings, not just for this year, but for at least couple of years to come. With fiscal deficit expected to be at elevated levels for next few years (over 6%+), supply of govt. bonds is likely to see a sharp surge with Govt.’s increased borrowings plan from the markets. Signals from bond markets are crystal clear. From the day of budget, the 10 year bench-mark yield (India G-sec) has moved by over 30bps from 5.9 to over 6.20%+ level. Consequently, this has impacted the spread negatively for the borrowers across various categories, effectively increasing the interest rates in the system.

While RBI is trying to comfort the markets by signaling that it will do what-ever it takes to manage the liquidity and the Govt.’s borrowings without any major disturbances in the bond yields vide OMO (Open Market Operations) and other tools, bond markets have so far ignored this. But given the variety of tools available with RBI, one doesn’t or should not expect yield to spike far beyond this, unless inflation trajectory surprises. Though not an immediate concern for the equity markets given the liquidity stance of RBI, this bond market pain, coming at a time when US ten year yield is under strain on similar supply concerns of treasury papers, will keep a check on the momentum for a while.

___________________________________________________________________________________________________