It is fascinating to fathom that the set of stories that surface in every cycle in India is strikingly similar. In the upcycle, it is all about the structural India story in terms of growth potential, demographic dividend, financialization and formalization (un-organized to organized) etc. In the down-cycle, risks like twin-deficits (current and fiscal), falling currency and rising inflation etc. return to dominate the narrative. It is about shining macro in the upcycle and all about daunting macro risks in the down-cycle. It is not that this pattern has popped up only in this particular cycle. In every cycle in the past, without exception, one would find this striking script shaping the story.
What do investors infer from this? It is the simple fact that India macro is neither daunting (as feared in down-cycle), nor shining as scripted in the upcycle. Understanding what causes the underlying cycles that steer up the stories is far more stimulating for investors. These cycles, esp. in emerging markets, are caused more by the carry trade flows than anything else. These carry trade flows that triggers the big up-move or a sharp fall when they reverse, are dictated more by direction of Fed rates than any country specific chronicles. But what happens on the ground is grossly different. When the carry trade flows change the direction, narrative on the ground changes to suit the local script, thus amplifying the trend.
What we are currently going through’ is one such amplified trend of downturn in the broader markets (though indices are at all time high because of skewed surge in few stocks). Though what has triggered this fall is a simple cyclical issue of EM (Emerging Market) carry trade reversal, the deficit and currency issues that normally accompany such reversal have come back to make the macro look murky and thus aggravating the fall. Local challenges like political uncertainties, SEBI’s surveillance adventures and untimely mutual fund scheme rationalization etc. couldn’t have come at a worse time to make this otherwise cyclical fall into deeper downturn. What is more important to understand is, this fall has nothing to with India-specific issues and is more triggered by carry trade reversal. All negatives (which are always present) come to the surface as normally happens in any down-cycle. More interestingly, when the carry trade flows come back, it will be time for positives to come to the surface to script the sensuous bounce. Early signs of such a reversal are already visible if one goes by the slow and gradual improvement in FII flows in this month i.e. about $250mn net inflows into equities so far in July. Investors who don’t get lost in the narrative (like murky macro, political risks etc.), but focuses on the underlying cycles, will more likely to use the current fall as a great opportunity for stock picking and portfolio construction for long-term rewards.
Happy Value Investing!!