2021 began on a sour note after a gloomy 2020 as the World witnessed anarchy – the likes seen in banana republics – in the oldest democracy – the USA. A surprise ‘Blue Wave’ outcome post Democrats winning the Georgia Senate run-offs riled Trump who provoked his followers to march onto The Capitol using his beloved platform – Twitter. Well, it is always darkest before the dawn goes the saying. And just like that we saw Biden moving into the White House and swiftly announcing a revamped strategy to fight Covid-19. Within a week, the new administration also proposed a USD 1.9 tn American Rescue Plan to aid economic recovery. With respect to vaccinations, US has managed to inoculate ~10% of its population with UK at 14% – relatively more successful than its continental peers which are at close to 3%. Progress on this front will act as a bridge to the post-Covid world. China seems to have already reached there as both domestic and external demand have rebounded sharply in 4Q. It would also be the only large economy to report positive GDP growth in 2020 – what could be more ironical.
FROM INSURRECTION TO A NEW DAWN – ALL IN A MONTHS TIME
2021 began on a sour note after a gloomy 2020 as the World witnessed anarchy – the likes seen in banana republics – in the oldest democracy – the USA. A surprise ‘Blue Wave’ outcome post Democrats winning the Georgia Senate run-offs riled Trump who provoked his followers to march onto The Capitol using his beloved platform – Twitter. Well, it is always darkest before the dawn goes the saying. And just like that we saw Biden moving into the White House and swiftly announcing a revamped strategy to fight Covid-19. Within a week, the new administration also proposed a USD 1.9 tn American Rescue Plan to aid economic recovery. With respect to vaccinations, US has managed to inoculate ~10% of its population with UK at 14% – relatively more successful than its continental peers which are at close to 3%. Progress on this front will act as a bridge to the post-Covid world. China seems to have already reached there as both domestic and external demand have rebounded sharply in 4Q. It would also be the only large economy to report positive GDP growth in 2020 – what could be more ironical.
Quick progress on vaccinations could help achieve normalcy
Source: Our World in Data *On 31st Jan 2021
GLOBAL EQUITIES: SHORT SQUEEZE; OW EU/JAPAN, NEUTRAL US
Jan-21 was turning out to be a smooth sail for Equities with major uncertainties addressed – Brexit, global roll out of vaccinations, new majority leadership in US – but who knew a war was about to ensue. Howsoever we define it, Main Street vs Wall Street or David vs Goliath, the amateur retail traders tussle with professional hedge funds led to one of the sharpest daily spikes in market volatility ever recorded. The repercussions were felt across the globe as markets tanked like a pack of cards. This time too two platforms were to blame – Robinhood and Reddit. Such a coordinated ‘short squeeze’ attack by an army of non-professional day traders will not undermine Equities attraction. The continuing fiscal and monetary stimulus stance together with improving economic recovery will help the market to overlook such concerns and those related to virus driven restrictions. Investors should ignore such technically driven selloffs and focus on asset allocation and prudent portfolio construction for long-term wealth creation.
PMIs in expansion zone indicating economic recovery
Source: Bloomberg
Allocation to Global Equities improves risk-adjusted returns while providing exposures to New World companies and stronger currencies. We retain our tactical overweight stance on Europe/Japan and stay invested in the US.
GLOBAL FIXED INCOME: MINI TANTRUM; RETAIN OW HIGH YIELD
Major central banks have reassured their ‘ready to act’ stance saying that pandemic still ‘poses serious risks’ and economy remains ‘adversely affected’. They are more likely to err on the side of overaccommodation. Governments have also shown keenness in keeping the fiscal stimulus taps open till growth returns and unemployment falls. The risk that a twin expansionary policy runs is one of inflation especially if pandemic trajectory surprises positively. This concern and sharp rise in debt-to-GDP metrics thus led to spikes in DM long-term sovereign yields through Jan-21 only to fall as Equities crashed towards the month-end. We believe a near-term jump in inflation would not force the central banks to reverse ‘lower for longer’ positioning and they would rather prefer to be late than early. We retain our tactical OW on HY bonds relative to IG given more room for spread compression in HY credits.
More room for spread compression in HY credits
Source: Bloomberg, LGT
GLOBAL COMMODITIES: DEMAND STRONG & SILVER HIGH TO EBB; OW GOLD
Jan-21 was a month of considerable underlying demand revival as seen in much of the oil as well as agricultural and livestock commodity complexes. A notable exception, however, was gold – declining ~3% in USD terms. This is uncharacteristically irrational especially since demand for the yellow metal has strengthened even more towards the end of 2020. Some of the Fed-induced liquidity likely manifested as a “January” effect (at least partly) in a retail investor-pumped silver which possibly resulted in this optical rotation of interest away from gold. The relative arbitrage should likely now reverse back in favour of gold because of which we retain our strong OW on the yellow metal.
Festivals led demand recovery seen in India and China in 4CY20
Source: World Gold Council
INDIA BUDGET 2021: ALL GUNS BLAZING
The budget like-never-before after the once-in-a-century pandemic was a valiant attempt to kickstart the sluggish economy through an all-guns-blazing thrust on infrastructure, manufacturing, and healthcare. This investment-led growth bodes well for a medium-term sustainable growth recovery. The budget proposed a significant jump of 26% in capital expenditure to INR 5.54 tn for FY22 and initiated setup of a Development Finance Institution for infra-projects, providing long term debt of over INR 5 tn in 3 years. Healthcare finally saw a necessary increase in budgetary allocation coming out of the pandemic, with the expected headline outlay more than doubling in FY22. The fiscal deficit expanded to 9.5% of GDP on account of plummeting tax revenues in FY21 and the government has further proposed a fiscal deficit of 6.8% to back its growth agenda in FY22. Asset monetisation and disinvestment will play a supporting role in balancing this increased expenditure, with the INR 1.75 tn disinvestment target expected to be met via privatisation of two PSBs, IPO of LIC and strategic disinvestments of numerous CPSEs. The budget also proposed an Asset Restructuring Company (‘Bad Bank’) to acquire and manage bad loans, thereby providing relief to the NPA riddled financial sector and easing credit flow
FY22 Budget snapshot – credible, transparent and growth oriented
Source: GoI
INR 100 tn National Infrastructure Pipeline (NIP) breakup by sector
Source: GoI
Jan-21 ended with positive news on the Covid-19 vaccine rollout, vehicle scrappage policy and a strong improvement in the Manufacturing PMI which rose to 57.7 amid improved demand conditions. GST collections hit an all-time high of INR 1.2 tn for the month with trade turning more organized and compliant, while auto sales growth came in positive due to urban demand for passenger vehicles increasing with personal mobility preference. The country’s resilient agriculture closed the winter sowing for Rabi having achieved its highest ever coverage area with a 2.86% increase over last year.
INDIA EQUITIES: A SPEED BUMP ON A LONG RUNWAY; OW EQUITY / MID CAPS
Indian equities too paused for breath after an unending rally that started in Nov-20 post US elections. Benchmark indices had scaled new peaks when vertigo set in led by global volatility and pre-Budget jitters pulling down Nifty 50 index by 8% in 6 consecutive sessions. 3QFY21 corporate earnings were surprising across the board so the shocking fall was more to do with panic driven herd behaviour and less to do with fundamentals. The growth focused budget eventually provided much needed salvation to investors as markets gave a ~5% thumbs-up. As highlighted earlier, we believe India Equity story has a long runway ahead which the budget announcements have now smoothened.
We continue to maintain OW stance on Equity owing to expected strong earnings recovery given the low base effect. Valuations appear to be expensive offset by abundant liquidity and low bond yields. A staggered approach to investing will benefit from volatility and margin of safety. We also raise our conviction further on Mid vs Large-caps as relative valuations are attractive further supported by benefits of macro recovery and high retail participation.
Nifty Mid-cap FY21-23 earnings growth CAGR at 2x of Nifty 100
Source: Bloomberg *Estimates
Investors could look at thematic opportunities like PLI, Infrastructure, Value that are likely to outperform over next 6-12 months as Satellite allocations. However, it is paramount to keep core allocations intact that are built basis their inherent suitability and from medium-to-longer term return perspective.
INDIA FIXED INCOME: OPENING THE FLOODGATES; OW CORP / ST
Higher than expected FY22 borrowings at INR 12 tn and longer than expected expansionary fiscal stance till at least FY26 pushed the G-Sec yields through the roof on Budget day. The yawning fiscal deficit could be argued to be inflationary and the RBI might find itself yet again, “leaning against the wind” – this time instead of fighting a flow-driven appreciating INR, the central bank would face its old nemesis: CPI-driven hardening of the G-Sec something which it has already been presently dealing with via the numerous devolved 10Yr auctions. After the fiscal budget, focus now shifts to the RBI on its interest rate decision on 5-Feb-21. Concerns on growth, inflation & fiscal deficit could continue to weigh on sovereign bond yields despite RBI support. Better than projected tax collections and disinvestment receipts could act as a positive surprise as these seem to be credible and in-line with nominal GDP growth estimate of 14.4% for FY22. Also, even as credit upgrades-to-downgrades ratio seem to have bottomed out, it is still away from long-term comfort level of around 1x.
Liquidity absorption meaures led to spike in short-end yields
Source: Bloomberg
Hence, we continue to remain focused on top quality corporate issuances / funds and short duration investments in debt portfolios.
CURRENCY: TESTING THE DEPTHS OF THE RBI; NEUTRAL ON USD-INR
India’s Union Budget certainly showcased the nation as a blue-eyed darling of the FIIs and cash net purchases of ~INR 77 bn so far in Feb-21 have not lied. Should such resilient flows into Indian assets (mainly equities) sustain, then the RBI would once again have to dig in deep and hold the INR steady with offsetting USD purchases. Till what limits would the RBI stretch its reserves is anyone’s guess given they are already at lifetime highs. Thankfully, India’s expansionary fiscal policy (a widening fiscal deficit) should provide some relief to monetary policy that is now focused on calming a flow-pumped INR. Net-net, we thus revert to an indifferent stance between the greenback and the INR.
Exports growth back in positive zone after 3 months
Source: Bloomberg
TACTICAL ASSET ALLOCATION (TAA) VIEWS & PERFORMANCE
Source: Bloomberg. Assuming a 6% annualized yield for cash.
GLOBAL ASSET PERFORMANCE SNAPSHOT
Source: Bloomberg Equity/Fixed Income Returns/Yields in local currencies. Commodities in USD. Numbers for Fixed Income are Yields as of 31st January 2021.
ROUTES TO MARKETS: MODEL ALLOCATIONS
Glossary: COVID-19: Corona Virus Disease; U.S.: United States UK: United Kingdom; EM: Emerging Markets; DM: Developed Markets; PMI: Purchasing Manager’s Index; O(U)W: Over (Under) Weight;; HY: High Yield; IG: Investment Grade; GDP: Gross Domestic Product; GST: Goods and Service Tax; RBI: Reserve Bank of India; YoY: Year on Year; MoM: Month on Month; USD: United States Dollar; INR: Indian Rupee; FX: Foreign Exchange; CAGR: Compound Annual Growth Rate; CPSE: Central Public Sector Enterprise; BE: Budget Estimates; PSB: Public Sector Bank; IPO: Initial Public Offering; ST: Short Term; CPI: Consumer Price Index; FII: Foreign Institutional Investor; G-Sec: Government Securities; PLI: Production Linked Incentives