We will continue to prefer bonds as asset class for some more time: Manpreet Gill, Standard Chartered
- Indian bonds'real yields are quite high, the second highest amongst major EMs.
- If interest rates continue to fall, bonds can be a really good place to be in.
- No use speculating whether we will get big bang measures or not.
We are seeing the effects of both what is happening globally as well as real slowdown taking place in India. We are yet to see any action from the government and the markets are clearly waiting for something more tangible than assurances. What is your reading?
Growth is clearly a challenge and slowing growth, whether it is here in India or elsewhere, is something markets are examining very closely. But from our point of view, we are trying to make quite a sharp distinction between a slowdown versus a much deeper downturn or a recession because the outcome is quite different for each and just to set some context, the PMI numbers in India have approached the 50 mark that separates expansion from contraction, but usually when you think about end of cycle recessionary slowdowns, that number tends to be much lower and it is a similar picture when we look elsewhere in the world.
So growth is a challenge but when we look at a cross section of metrics, this still looks like a midcycle growth slowdown to us. The key here is what kind of policy response we get and how we tie that into our investment decision. As we look at equities versus bonds, both are valid investment decisions and depending on both, the extent of slowing growth and the kind of policy response we get, we will try and see where it makes sense to balance investment allocations between the two.
What are you making of the movement in the US yield curve? Of late, that has been sending shockers to the India market. As if our own domestics were not enough, there are noe recessionary fears in both US as well as UK?
US yields are trying to balance that trade off I just described. We are getting signals with the yield curve potentially signalling that at some point we may get an end of cycle recession. It is far from a perfect signal. It does not tell us anything about timing but it does tell us that we are in a situation where we may indeed get quite a bit of support from central banks around the world.
Here we have already seen the RBI cut rates but we are seeing that sort of effort mirrored around the world and starting Friday, Powell will be speaking to kick off the Fed’s annual Jackson Hole Economic Policy Symposium. That is really going with the market focus area.
From a market perspective what that tells us is when you think about risky assets equity is, in corporate bonds the key question is going to be whether that stimulus is going to be enough to support markets because lower yields on their own can be quite positive for equities but for corporate bond valuations in India, the spreads are much wider than they are usually but between now and then, if interest rates or the expectations continue to fall, bonds can still be a really good place to be in.
That is the asset class we preferred in India for a large part of this year and we think that is something which could continue for at least a little bit further.
Everybody is saying look for a stimulus from the government and that will fix the economy. My counter question is where is the scope for a stimulus on the fiscal and on the monetary side? On the monetary side, you can cut rates by 25 bps or 50 bps. On the fiscal side, you cannot have a little bit of miss now.
I agree with you to some extent on the fiscal side because any large stimulus would raise different questions in terms of the fiscal consolidation part but on the monetary side, I disagree a little bit because one of the metrics we track from a currency market perspective is real bond yields. In other words, net of the inflation rate, the gap is quite large between bond yields and interest rates.
Interest rates today are considerably above the inflation rate-- whether it is consumer or wholesale prices. When you compare where those real bond yields are across the emerging markets space, Indian real yields look quite high -- the second highest amongst major emerging markets together with Indonesia.
So I would argue there is quite a bit of room on the monetary side to offer some support. It is always going to be about how the combination of fiscal and monetary levers come through or even whether there is room on the regulatory side, but between the various tools and the tool kit, there is some room for a boost in the monetary side.
It is a bit of a catch-22 situation. At a time like this, some of the measures that the government was looking to take in order to raise funds -- be it the overseas issue, be it divestment -- everything seems to be in a deadlock now and are not necessarily avenues that would allow fundraising to drive fiscal stimulus. What can we expect from the government then?
It is really going to be about what kind of a mix we get overall because you are right, the environment really is not easy. There is one very obvious channel through which you can raise funds and potentially have a big bang fiscal stimulus.
I look to borrowing overseas in the dollar market whether that is the dollar bonds or local currency as at the end of the day, globally interest rates are falling and we have seen investors are willing to buy anything that offers a decent yield. A large part of the developed world are already well into negative bond yields, all the way up to 30 years in the case of Europe.
If you are getting emerging market assets which offer a reasonably positive yield, we think that will be an asset class where there will be quite a bit of demand from investors. So that is clearly an avenue, but at the end of the day, it is going to be about how that mix comes together, there is some limited room as you mentioned on the fiscal side. What's important is how that squares up versus the monetary side and for an investorm the key is going to be how to play that trade off between equities and bonds because a big bang fiscal stimulus arguably would be more positive for equities than bonds.
We still think equities offer some room for performance though we would rather be looking at the small and midcaps rather than largecaps because you just have much-much better valuation buffer. But at the end of the day when you are looking at a world where interest rates and bond yields continue to fall lower and lower and the bond yields on the G-sec market do end up looking quite interesting, particularly when people like us start looking at what they pay versus other option the emerging market space whether it is in local currencies or in dollars. We are going to answer that depending on what sort of measures or mix of measures we get.
If the government takes just a little bit of economy boosting measure, that may fix the immediate problem but this may not be a grand long-term solution. What will happen to the underlying growth of the economy? Sectors like auto, media, financials and real estate are already in distress. If big steps are not taken by the government, what kind of economy do you think we could be staring at in H2 of this calendar year?
It is difficult to speculate because it depends on what kind of measures we get but there are two big factors at play here; One, as we discussed, when you think about the room for policy easing, I would not be dwell on a baseline expectation expecting big bang changes. If we get that surprise, fantastic but let us recognise that it maybe more about the mix as opposed to single big bang measures.
So from a growth perspective, it is more about support rather than something that massively stimulates growth from an asset allocation perspective. We are quite focused on diversification and getting that mix between equities and bonds right, rather than going very strongly in the equities direction today. So, that is one part of it.
Second, we need to think about the kind of global environment the economy is trying to operate in because that environment is quite difficult and there is a pass through into the Indian economy. We are seeing an environment where growth and investment flows are clearly constrained than before, but on the upside, oil prices, which act as a big tax on the economy, are quite well contained.
If anything, that is a source of support. The fact that the rupee is holding up very well which we expect it will continue to do is actually a source of support. It is really about how much of that could hold up growth. That is the immediate problem.
Long term measures are about long term policy efforts but it is very hard to invest around those on a six to 12 month horizon. I would rather wait and see whether any long-term measures come through and how to play those but today it is about what kind of support we get immediately and whether we respond by sort of maintaining our preference for bonds as we have today or whether we get enough reason to start thinking about more of a tilt towards equities, especially in the small and midcap space. That is really the way I would address today’s investing environment rather than speculate too much on whether we will get big bang measures or not.