2019 : Key Events

2019 was characterized as a tug-of-war between political conflict and macroeconomic policy. Geopolitical tensions weighed on business sentiment and prompted support from policymakers, led by significant monetary and fiscal easing in the U.S. ,China, India and other major economies. Global growth slowed to its lowest since the global financial crisis. Rising trade tensions related to tariffs, and general policy uncertainty were two key contributors to the growth slowdown. Large emerging markets such as Brazil, India, Russia, and Mexico dragged through much of the year. Global GDP growth stood at 3 percent (0.6 percent lower than 2018), while trade volume growth decreased to 1.1 percent versus 3.6 percent in 2018. Growth for Q3 2019 stood at 4.5 percent, below market expectations of 4.7 percent.

Going in 2020, we do not foresee a significant reversal of trade tensions or expect that policymaking will become more predictable Economic growth for emerging markets in the aggregate is expected to be 4.6%.

Here are some influences that could shape 2020.

MACRO

• • Midway through 2019, the government swung into action with a slew of measures to offset the impending slowdown. This included cutting corporate tax rates, labour reforms and de-criminalising aspects of the Companies Act. We expect some more actions to follow from decisions taken at GST council meetings and the annual budgets of Union and State Governments.
  • The recent initiatives to strategically divest PSU’s is one possible way to reduce the fiscal deficit. These efforts, in addition to the rising foreign exchange reserves and the global easy liquidity scenario are potentially working as better building blocks for the economic recovery.
  • Overall investments rebounded in fiscal 2019 with fixed investments growing 12.2%, up from 7.6% in fiscal 2018. Moreover, the investment ratio (investment/GDP) is estimated to have surged to 32.9% after wallowing at 30-31% in the past 4-5 years. For fiscal 2020, sustaining the momentum in overall investments will be a tough task without support from private investments.
  • Underlying the above issues, we see the following themes that would play a significant role in mapping out the macro-economic picture in 2020.
    1. Formalization of the economy;
    2. Strategic divestments by the government;
    3. Import substitution;
    4. Gradual revival of viable real estate projects;
    5. Financialisation of savings; and
    6. ESG – No more a choice, but the way forward.

EQUITY

• • At the outset, we have observed that the Indian equity market is not a true representative of the economic activity in the country. This is refl ected in the way and direction the profits of the listed companies have moved (FY18 level at 2.1% of GDP) over the last few years vis-à-vis the overall profi ts as per National Accounts Statistics (NAS) (around 9.1% of GDP for FY18).
  • Looking at the sector wise earnings, we are positive on private sector banks with strong liability franchises, insurance companies, select consumer staples and discretionary names, value for money retail, multiplex, gas utilities and cement names. We are neutral on healthcare. We stay underweight on energy, metals, public sector banks and autos.
  • We expect Nifty earnings to stage a smart recovery, growing at a CAGR of 18% over FY19-21E. Outperformance in forward earnings (FY19-21E) is expected to be driven by the BFSI space amid stable asset quality and recovery of large stressed accounts. We value the Nifty at 13,150 i.e. 19.5x FY21E EPS of | 675. The correspondingtarget for the Sensex is at 43,000.
  • Consumption stocks will be the epicenter of growth in 2020, they have capital efficient business model (RoE of ~35%) along with strong earnings growth (10 year earnings CAGR of ~14%). heightened investor focus on quality and cash generating business along with fewer opportunities elsewhere makes consumption stocks a relatively safe investment destination for long term investors.

FIXED INCOME/DEBT

• • The slowdown we witnessed last year was led by industry de-stocking, weak consumer confidence leading to holding back or delayed purchases (weaker consumption), NBFCs in de-leveraging mode impacting credit flow and an overall uncertain economic outlook. All these factors lead to a multi-year high on the spread between benchmark repo rates to 10-year GOI bonds factoring the negatives/risks.
  • We expect the policymakers to announce an asset quality review of NBFCs to identify the stress in assets and make it easier for better credit flow through the sector.
  • The RBI is expected to cut rates by another 40 bps in CY2020 with terminal rate being 4.75%. The banking system remains fl ushed with liquidity and thus ensures a reduction in the term premium, which translates into lower cost of funds.The 10 year G-Sec is expected to trade in the range of 6.25 to 6.75 for most part of CY2020.
  • CPI for December came in higher than expected at 7.35% y-o-y, which is over the RBI’s target range of 4% +/-2%. Food inflation rose by 14.1% y-o-y , Inflationary pressures may decline post February/March once new supplies, including imports and the winter crop, come to the market giving the government more room to ease interest rates.
  • We should brace for heightened volatility in 2020, which seems typical of fixed income universe currently. Economic indicators can change track quickly without much advance notice, causing frequent reset of monetary policy across the globe.
  • We are neutral on Ultra Short and Low Duration Funds.
    Overweight on Short Term, corporate bond and Credit Risk Space.
    Underweight on Medium to Long Term and Dynamic Bonds funds.

REAL ESTATE

• • 2020 has a great potential for both residential and commercial real estate business. Rapid urbanization and white-collar migration will ensure strong growth for the commercial sector which in turn will translate into higher residential demand.
  • The unsold inventory is down 17% from the peak in April 2016, although this is also due to the declining number of new launches. Office Vacancy rates in top 7 cities in India have improved from 19% in 2015 to 12% in 2019. Commercial space is continuing attract private equity and institutional investment. Office vacancy rates have come down to 12% (as of September 2019).
  • Structurally, the establishment of the Real Estate Regulatory Authority (RERA) which has been fully in force since 2017, continues to be an important set up as the economy moves towards greater formalization. In 2019, we also saw a relaxation of external commercial borrowing (ECB) guidelines for affordable housing and a reduction in the interest on housing building allowance. In order to revive around 1,600 stalled housing projects across the top cities in the country, the Union Cabinet has approved the setting up of an Rs 25,000 crore (US$ 3.58 billion) alternative investment fund (AIF).
  • Government has created an Affordable Housing Fund (AHF) in the National Housing Bank (NHB) with an initial corpus of Rs 10,000 crore (US$ 1.43 billion) using priority sector lending short fall of banks/financial institutions for micro financing of the HFCs. By 2030, India will need 25 million more affordable housing units to oblige its growing urban population.
  • Shares of property companies have risen by 23.3% over the past year, outperforming the broader index (BSE500 up by 9.3% in INR terms) and will continue to do well.
  • First REIT raised Rs 4,750 crore (US$ 679.64 million) and was launched earlier in 2019 by the global investment firm Blackstone and realty firm Embassy group. 2020-21 could see more such issuances.

KEY RISKS

• • Crude Oil Price
    With crude oil currently making up the largest proportion of the country’s energy demand and being the largest item of import, any signifi cant rise in oil prices results in the trade defi cit widening and puts pressure on the government’s fi scal balance, infl ation levels, interest rates and the currency.
  • Low Growth, High Infl ation and Fiscal Uncertainty
    The current low growth and concern over widening fi scal defi cit could pose risk to market recovery. The weak gross tax revenues and supply side led infl ation shocks could reduce space to accommodate pro growth fi scal and monetary measures.
  • Liquidity Issues for Weaker NBFCs
    If the weaker set of Non Banking Financial Companies, do not de-lever, de-risk, and re-model well it could impact investor confi dence. A comforting factor is that the exposure of the fi nancial system to NBFCs that have been seeing funding constraints is down by ~20% since September 2018.
  • Geopolitics and Global Macros
    Any meaningful slowdown in global demand can adversely impact export demand. Rising geopolitical tension and no conclusive trade deal between US and China could impact markets.

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