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This article is more than 3 year old.

Amazed by resilience of Indian stocks, looking to raise India weightings early next year: CLSA's Chris Wood

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Christopher Wood, global equity strategist at CLSA, is impressed with the resilience of the Indian stocks market during all these years of earnings disappointments and he expects better earnings next year as capital spending cycle improves.

Amazed by resilience of Indian stocks, looking to raise India weightings early next year: CLSA's Chris Wood
As worries over global growth and Sino-US trade friction pushes Asian stocks, bond and currency markets deeper into bear territory, investment managers around the world are looking for bargains and India continues to remain on their safe list.
Christopher Wood, global equity strategist at CLSA, is impressed with the resilience of the Indian stocks market during all these years of earnings disappointments and he expects better earnings next year as capital spending cycle improves.
In an interaction with CNBC-TV18, Wood discusses his concerns for the US market, his outlook for China, developments in bond markets and why he likes India.
Q: The big discussion around EMs (emerging markets) is this tightening global liquidity. Do you think there is more to go in terms of growth scare or investors scaring away from EMs?
A: I think yes, there is more to go in terms of the downside risk from monetary tightening but I think the story is moved on from just EMs to global equities in general. At the beginning of this quarter, the US equity market was the last man standing and now that clearly had a corrective phrase in October. So until monetary tightening ends in the US, I think that risk remains.
In the short-term though, I think there is a distinct possibility of a rally if we get a US-China trade deal before the next wave of tariffs are due to kick-in and I am so hoping for a trade deal. If we have such a trade deal then that would lead to a rally in Asia.
Q: Thus far we have seen of course as you said US as the last man standing, generally developed markets are doing far better than emerging markets, but now has the valuation divergence gone so far that actually at current values, EMs have become attractive?
A: Valuation-wise they are definitely attractive. In my view, the big underperformance of emerging and Asia relative to world market is US markets has peaked out. So I think the fact that the US corrected in October means that this tightening has now hit all markets and so I would agree, we have seen the worst of the underperformance but so long as we have US monetary tightening - and we still have it - there is clearly a risk of further downside risk. I just think it is not going to be purely confined to Asia and emerging markets.
However, a very important point for emerging markets particularly Asia is if this US-China trade issue resolved or does it get worst. We either get a deal before year-end or we don’t get a deal and that will become very negative because then there will be a big increase in tariffs then I think China will be much less likely to do a deal with the US and then the risk is that the China gives a signal to its population to stop buying American goods. So that is the risk if we don’t get the deal.
My base case is there will be a US-China trade deal and then it is likely time it is agreed is around the G20 summit when US President Donald Trump is meant to meet the Chinese leader.
Q: What is your base case on crude now because I was reading your report and you clearly suggested that this crude rally which we saw off late is temporary and we will probably see a pullback from there and actually crude has pulled back in the last few days, what is the general base case for crude and what that means for India as well?
A: I think the biggest risks for India right now are external that is further appreciation in oil and further appreciation in the dollar. So, we have had some relief from oil but in my view, this correction you have seen in oil is primarily attributed to the U-turn you saw from the US on the Iranian oil issue. A month or two months ago, the market was assuming that the US was going to force these measures extremely aggressively that people who bought Iranian oil will have risks of so called secondary sanctions. The US did a total U-turn and as a result, oil has corrected but that U-turn is not discounted and in my view, if demand for oil holds up in the EMs world, which we know it is clearly doing, there is a significant risk that oil trends higher over the next 12 months. So that to me is the biggest risk with regards to India.
Q: When the Organization of the Petroleum Exporting Countries (OPEC) spoke about crude prices earlier this week, they said that they see a scaling down of demand as well. They were scaling down growth both globally as well as demand from India. So do you think it goes back to USD 86-90 per barrel? It was OPEC’s view.
A: All I know was that people every year underestimate demand for oil in EMs. So the track record suggests that EMs demand for oil continues to surprise on the upside. India is not so far off in gross domestic product (GDP) per capita terms the level China was in 2001-2002 when Chinese demand went materially higher. So I think the long-term risk is that demand for oil continues to grow in the emerging world unless you believe that everybody is going to be driving electric vehicles in the emerging market world and so far that is more hype than reality.
Q: Coming back to India, I know you have been quite bullish on Indian markets and even in a model portfolio, you used to own a quite a bit of non-banking financial companies (NBFCs) stocks, the likes of Indiabulls Housing Finance, Gruh Finance, given the liquidity crisis that we saw in the last few weeks, what is the general view on the NBFC stocks in India?
A: When I look at financials and non-bank financials, I would make a big distinction in the long run. So I always had exposure to this sector ever since I began this portfolio in 2002, but clearly in terms of the recent past, there has been a massive hit to these stocks because of the unfortunate default of a AAA credit - when AAA credit suddenly defaults, you can understand this is a shock to the system and this clearly is going to cause a significant slowdown in growth in this area and clearly, it creates the risk that investors no longer trust Indian credit ratings.
So that was very unfortunate but that has already hit the market. So in my view, in the long run, I definitely still want to own this area because I do think both consumer finance and housing finance are long-term growth stories and my view is that the very dramatic sell-off you saw in these stocks has probably discounted any undoubted slowdown that is now coming. However, from a point of view of my own portfolio, it is unfortunate because my portfolio was outperforming the benchmark quite decently until it went completely the other way because of this specific development. Obviously we had a massive outflow out of the bond funds in September as investors panicked on what happened. But it is actually reassuring to see some inflows in the month of October.
To me, this is an area we just need to monitor but long-term, I definitely want to continue to own affordable housing place because I think the affordable housing policy – I don’t think, I know that affordable housing policy is kicking in, we are getting growing completions of affordable housing units. I also remain of the view that the Indian real estate market is in early stage of recovery.
Q: Just a word on the fixed income space in India as well. Like we saw foreign investors moving out of Indian equities, they moved out of Indian debt in even more emphatic quantities but in the past week, we have seen them come back and come back more clearly into Indian debt, government debt basically, sovereign debt, do you think rupee is stable enough and yields have fallen enough for government debt to become attractive?
A: In my basic view - what I have been telling foreign investors for long time that if you get 8 percent yield on an India 10-year government bond, currency bond, in my view that is a good value. So anything over 8 percent and higher, I think, is attractive.
In my view, the monetary policy in India in recent years has been quite tight if not very tight. If you look at interest rates relative to headline inflation, you have high real interest rates and in a long run, that should be government bond market bullish. So I am not surprised to see the evidence of foreigners beginning to come back. To me, the risk on the currency is simply too externalities, which is outside the Indian government’s control. One is the oil price, we discussed and the other is how long a Fed tightening cycle goes on.
So my base case is that Fed tightening cycle should end by the middle of next year, the latest but if I am wrong on that then the headwinds will grow for longer because so long as you have a combination or continuation of the current combination you have in America namely fiscal easing and monetary tightening, it is dollar bullish.
Q: Let me come to another issue which your colleague Mahesh has already flagged but as a person sitting outside India and looking at all countries, how do you look at this repeated downgrading of Indian earnings, this is the sixth year in a row Mahesh Nandurkar has pointed out that earnings are not firing as promised, does that make India a slightly less attractive?
A: What is amazing because you are absolutely right to highlight that the performance of corporate earnings has underperformed the performance of nominal GDP in India. So nominal GDP has been much better than corporate earnings. As a result, corporate earnings have gone to almost historic low relative to GDP but I am looking at this from the contrarian standpoint of how much worst can it get.
So the amazing thing is how resilient the Indian stock market has been during all these years of earnings disappointments but my base case next year is we will finally see evidence of the long-awaited capital spending cycle in India and that should be the catalyst for better earnings.
So, right now I will be looking to increase my overweight in India early next year if I get more confident that the capex cycle is returning and if I continue to believe my base case on the politics – and my base case on the politics is that the Modi government will be re-elected albeit with a reduced majority.
I want to see the Modi government re-elected with the majority and the capex cycle kicking in and then that would justify increasing ratings in India.
(CLSA cut its India rating to double overweight from triple overweight early this year. )
Q: Next eight-ten months are going to be very busy election calendar for India and as you rightly pointed out, you believe that the Modi government will come to power, is that something which is getting priced in when the global investors look at India?
A: I think in the short-term, there is going to be growing noise that the Modi government will not be re-elected. The people will be looking to the signs that the state elections are not going well for the current government, there is likely to be an anti-incumbent vote but these local, these state elections, in my view, elected primarily on local issues should not be interpret as a big signal for next year. So I would expect growing noise and concern on the part of investors that the government will not be re-elected but my base case is that they will.
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