November saw the Sensex contract by 3.9% over October to 57,065. COVID-19 concerns around the new Omicron variant, continued US strength, China’s dial back of regulatory crackdowns, COP26 climate meet and geopolitical tensions. On the domestic front, continued economic recovery, in-line GDP momentum, and a strong festive season were in focus. FII’s were net sellers to the tune of $(0.6)bn. The rupee depreciated by 0.4% and closed at Rs.75.2 to the dollar, even as the dollar index (DXY) strengthened by 2% during the month.
Global markets closed weak for the month of November, with most of the weakness seen during the last two weeks of the month. The first half of November witnessed a continued surge of infections (with low mortalities) in Europe. Countries increasingly were seen responding with incremental restrictions and various types of lockdowns. The Asian continent however saw mixed narratives with most of the countries relaxing their restrictions and seeing an increase in activity. China surprised commentators as they doubled down on their zero-COVID strategy, raising some concerns among commentators who associate this strategy to more frequent COVID-19 outbursts. The second half of the month was extremely volatile for the markets, as the emergence of another COVID-19 variant, Omicron in South Africa, created fear of another series of waves across the world. However, into early December, data showed a very muted pickup in hospitalisations and barely any increase in mortalities associated with this variant. Apart from market related fears, on the macro front, data remained fairly upbeat. US demand continued to remain strong despite continued narratives heard around supply shortages. US spending held up, job openings continued to rise, retail and production remained upbeat, alongside home sales number surprises and in-line manufacturing PMIs. Services PMIs on the other hand, moderated on the back of slower business growth and rising prices, were seen to impact US consumer confidence that moved lower. On the policy front, the US infrastructure bill was finally passed, and Biden signed his approval for the same. The month of December is expected to see discussions around the social security bill that is yet to see appreciable progress on discussions. During the month, the US and the EU reached an agreement to remove tariffs on its exports in aluminium and steel, tariffs that Trump imposed in Feb’18. Despite rising infections and talks of incremental restrictions, the month of November broadly held up in Eurozone with both its manufacturing and services PMIs recording beats to market expectations. European auto however continued to see stress with a consecutive drop in production. Rising prices of energy, goods and services led to a surprise increase in Eurozone inflation. Inflationary concerns and rising COVID-19 infections however led to softening of retail sales in the region. Asian activity saw both manufacturing and services witnessing an uptick in November. All key Asian economies have seen a rebound in activity by varying degrees, despite the continued narrative of supply-bottlenecks in the region. In China, port congestions continued, largely attributed to its strong zero-COVID strategy. Further, the markets saw China dialling back on its regulatory crackdowns that were intense in the monthly of Jun/Jul this year. Alongside this, China eased its “three red lines” that was seen to be one of the key reasons behind China’s developer-pressures in the property space. Further, payment from China’s Evergrande on its dollar dues have added another layer of confidence that brought back investor attention and flows to China. Early into December, China cut its reverse requirement ratios for its banks to help support its economy. In the commodity space, steel / coal prices continued to drop, and crude prices remained soft with Omicron related narratives and the release of strategic crude reserves by the US and other select countries. The COP26 climate meeting in Glasgow saw the G20 leaders announce a climate agreement, restating a commitment to the Paris Agreement, pledges to end public investment on overseas coal power plants, agreement to a minimum corporate tax. and talks of phasing out gasoline/diesel vehicles. On geopolitics, tensions between Russia and Ukraine continued with no change in the Russian military build-up in the region and continued warnings from the western world.
Narratives around the Federal Reserve (Fed) dominated the central banking space. After an October flurry of rate hikes from the central banks of small European countries outside the Eurozone and some Latin American economies, November saw a smaller set of rate rises. Turkey stood out again this month with currency depreciation after its Prime Minister pushed for more rate cuts amidst double digit inflation. The Fed’s monetary policy saw a patient Fed, with an open and evolving view on inflation that also acknowledged demand pressures as one of the drivers of inflationary pressures. US CPI inflation touched a 30Y high and brought forward market expectations of a rate rise from the Fed to start soon after the taper ended in Jun’22. While this was followed by Omicron related concerns that pushed back the rate hike narrative briefly, early December heard hawkish commentary from Powell that soon brought back focus on rates. Powell commented that it was time to retire the word ‘transitory’ and also mentioned that the December Fed policy would hold discussions on the possibility of a faster taper of the Fed’s bond purchases. The month of November saw Powell being renominated as the Fed Chair for another four years with the Vice Chair being replaced by Ms.Brainard. It is important to note here that the markets see both Mr.Powell and Ms.Brainard as dovish on rates. Outside of the Fed, commentary from the ECB continued to reiterate the transitory nature of inflation.
The month of November witnessed macro data broadly reflecting the underlying economic recovery. Wholesale inflation touched a Dec’98 high and stood well above market expectations largely on the back of an increase in commodity prices. Retail inflation on the other hand witnessed a marginal inch up on the back of some food inflation. The current month is expected to witness some softening, reflecting a fuller impact of the excise duty cut on fuels by both the central and select state governments. PMI indices for November surprised markets with higher-than-expected index values for both manufacturing and services, reflecting largely the positive momentum seen during the festive season. GST witnessed its second highest collections on record and the goods trade deficit for November touched a record high on the back of a broad-based pickup in imports. India GDP for Q2 was marginally above expectations, reiterating the continued pace of recovery as the headline GDP for the quarter stood marginally positive on a 2Y CAGR basis. The centre’s fiscal deficit for the Apr-Oct’21 period remained contained at 36% of the budgeted target and early in December, the centre sought approval for additional spending of Rs.3.7tr across key ministries. State capex witnessed a pickup with UP and MP in particular focus. India coal stocks saw an appreciable improvement at power plants, cargo handled at ports saw an increase and telecom companies announced double digit mobile tariff hikes that are expected to trickle into inflation into the months ahead. Short frequency indicators witnessed an appreciable pickup, cargo at ports saw an increase and SME collection efficiency improved. The festive season saw a pickup in hotel room rates, realty developers offering freebies/discounts/voluntary stamp duty waiver schemes and a three year best for gold jewellers. The increase in input prices that we have been writing about over the last few quarters was heard in company commentaries during the earnings season where many companies in the FMCG industries saw a squeeze in profits due to higher input costs, while many others passed them on to consumers. Recent narratives show discretionary product retailers expecting to raise rates by 8-10%. Early into December, the RBI’s monetary policy kept both its policy rates and policy stance unchanged. The start of normalisation in the reverse repo rate has also been kept unchanged, in line with our expectations. In November, the RBI revised its prompt corrective action (PCA) framework to exclude the profitability parameter from the various list of triggers. On the policy front, the central government repealed the three controversial farm laws yesterday after much deliberation. Moving to the states, State electricity regulators were asked to adopt an ‘automatic pass-through model’ by the Union Ministry to ensure compensation for any type of sudden surge in fuel price hikes. The government was heard proposing some tweaks to its laws in order to make industrial units mandatorily use a green energy as a share of its energy consumption. In the COP26 climate meet, India surprised commentators with its pledge of net-zero emissions by 2070. The centre approved the construction of 361k houses across 17 states and union territories under the Pradhan Mantri Awas Yojana (Urban) and news flows indicated that the upcoming Feb’22 budget could see the needed tax sops that would open the door up for bond inclusion. Fitch retained its BBB- for India and the Omicron variant led to the imposition of rigorous screening both from centre and states.
In line with the broad-based correction witnessed in global equity markets, global inflows also saw a broad-based drop across developed and emerging markets alike. Hawkish comments from the Fed, concerns around the new Omicron variant of COVID19, continued supply crunches and crude price focus were the broad market narratives that created layers of uncertainty. The drop in inflows were seen across most asset classes, equities, bonds, and money markets. India saw outflows from equities to the tune of ($0.8)bn and marginal inflows of $0.2bn in bonds.
India is set to touch another vaccine milestone in the month of December. As of now, India is just shy of 90% (~60% total pop) single dose vaccinations and 55% (36% total pop) double dose vaccinations for its adult population. India’s single dose vaccinations at ~60% is an increase from 53% seen last month. Developed economies like the US (71% from 66%) and Europe (63% from 60%) moved up on their single dose vaccinations and Asian economies on the whole witnessed their single dose vaccination rate move higher to 64% from 57% over the last one month. India has seen an average daily vaccination of just short of 7mn/day, with double dose vaccination rates nearly twice that of single dose.
US growth continues to remain strong and the policy hurdles around infra spending has cleared. The current discussions around debt ceiling, temporarily pushed into early next year and discussions around social spending are expected to come through, though delayed. This would add a layer of comfort to the markets. The narrative of excess savings and record inventory drawdowns that we have been writing about continue to be strong pillars of support for the US economy. Having said that, the commentary heard in November appears to have seen the Fed acknowledge inflation to stay for longer than they had expected and is also now seen to be driven by demand factors. As a result, the Fed’s stance appears to be increasingly moving towards that of a faster than expected taper that could very well end the QE one quarter earlier in Mar’22. All eyes are therefore on the Fed’s December policy this month where the topic of a fast taper would be discussed. Given continued upward surprises in inflation and a strong US economy, the markets are also signalling the start of rates hikes soon after the end of the taper in 2022.
The earnings season has been marginally ahead of market expectations with strong revenue growth seen in the tech sector; steady loan recoveries, loan growth/asset quality upgrades in most private sector banks, normalisation-led consumer/retail growth, and price/volume growth in the metals and energy sector. The auto sector however saw high raw material inflation that impacted its margins.
On the eve of Deepavali, the central government cut the excise duty it imposed on petrol and diesel by Rs.5/litre and Rs.10/litre respectively. This is expected to push down inflation by 12-15bps and with state governments following up on this. This would cost the centre Rs.450bn for the rest of FY22 and for a full fiscal year like FY23, it could cost Rs.1tr for the centre. While this does exert some pressure on the fiscal receipts of the government, given the current backdrop of strong tax buoyancy and an expected LIC IPO, this is not seen as a point of concern. For the economy as a whole, this would translate into an increase in their disposable incomes to at least the same extent, apart from the easing price pressures for consumers, lower logistics costs and some marginal comfort to manufacturing company gross margins that have been under pressure for a while now.
With a pause in its December policy, the RBI is likely to revisit any possible normalisation of its reverse repo rate only after the budget, with the most appropriate time to start reverse repo rate being early FY23.
Like with the centre, state receipts are also seeing an appreciable pickup and states are seen to be spending their monies on capex spends as well. This could give the economy the well expected fillip towards economic activity; especially given that state capex is of greater impetus for the Indian economy on the aggregate.
One narrative to keep an eye out for is the rupee. The market focus is likely to shift to a rupee depreciation in the month of December. India’s import bill has risen sharply on the back of an increase in energy and commodity price rises, alongside a pickup in the domestic economy. As a result, India’s monthly trade deficits have touched record highs, exerting pressure on its financing. While FDI flows have remained relatively stable, FII flows (primary+secondary market) have been waning over the last few months. Over and above this, there is the narrative around crude prices, India’s recovery, and a Fed policy dangling above that adds layers of uncertainty to the existing narrative. Somewhat balancing these narratives are Omicron related (hypothetical for now) growth slowdown, normalisation of global growth and a possible India bond inclusion on the other hand. The current FY22 YTD (Apr-Nov) has seen an appreciation of -0.6%, well below its recent 5Y average annual depreciation of 2.6%., Both statistically and flow wise, India appears to be staring at a slow grind higher on its currency. Any sharp disruptions in capital account flows could lead to a short whipsaw in between before the RBI steps in to smoothen the volatility. Having said all of the above, India’s macros continue to remain robust, and any rupee depreciation would only be an indication of currency normalisation in line with a growing economy.
The government has signalled pulling up growth in the housing sector through various initiatives seen earlier and is setting right the household investment rate. The consumption engine has been reasonably strong over the last few years and with the resumption of the investment cycle round the corner, India GDP could very well settle back to the 7% CAGR handle soon enough.
We see medium term domestic macro drivers to remain conducive for corporate earnings to grow at a healthy pace. The recovery across developed markets are additional levers for pick-up in earnings of global cyclicals. Our portfolios will be fairly diversified given the balanced growth expected in the next few years and the broad-based recovery across the market cap curve.
Into 2021, we expect continued growth momentum on the back of good monsoons and focussed government spends. We see the RBI’s pro-growth and comfortable liquidity stances to remain, which in turn would help give a push to manufacturing on the side-lines. We see the structural push to manufacturing coming from the China+1 shift and the successful deployment of the PLI schemes across the announced ten sectors. The PLI schemes alone are expected to add 0.3% to annual GDP in the coming years through new sales and value adds. On the whole, synchronous global stimulus measures, global liquidity, vaccination drives, restart of the trade engine and contained commodities are the key global events we expect for the year ahead that would be a positive for EM equities, India in particular.
The next few years is set to be driven by the return of the investment cycle which would add more muscle to the economic recovery. The twin cylinders of investment and consumption are expected to fire up growth through manufacturing and services. Our medium-term approach is to pursue a well-diversified portfolio strategy with focus on growth-oriented companies, within the above themes of manufacturing, industrials, consumer, services, and technology.
We remain constructive on India and equities as an asset class. Equities are a long-term asset class and require patience from investors to reap the benefits of the long-term compounding stories we invest in. Like all investments, we reiterate that short-term volatility is something that investors must be cognisant of and that medical solutions are providing more confidence, eliminating growth constraints.