Mkt weaker than what Nifty mirrors; new high unlikely: Citi

Indian indices have witnessed a massive 20 percent rally in the last 20 days and made a fair comeback from the negativity surrounding it, but it is unlikely to scale to new highs anytime soon, says Pankaj Vaish, Head South Asia Markets, Citi Group.

Continuing his bearish tone, he added that the market is weaker than what is reflected by the Nifty and a meaningful break above 6200 looks unlikely.

Though the recent rally seen in most emerging markets, which is fuelled by global liquidity could extend a bit more, but the Indian market will largely remain rangebound until fundamental issues are fixed, he said.

“We need to keep a close watch on RBI moves. It is good that the policy makers swung into action and have announced a whole bunch of measures for inflows which is the right way to deal with the rupee issue. The equity market felt a little bit comfortable for now, but it won’t burst out and make a new high,” he elaborated.

According to him, there are chances of a market rally if there is greater clarity on monetary policy.

On the downside, the Nifty is unlikely to breach key level of 5,100 given the fact that the central bank is likely to rollback liquidity tightening measure and the repo rate will be the operational rate going forward. These statements by the RBI should give equity market comfort, he added. He cautions of high volatility for the next few months. 

Like most expects, Vaish also feels that postponement of QE withdrawal is a breather for India and that should be utilized to get back foreign inflows.

Below is the verbatim transcript of Pankaj Vaish's interview on CNBC-TV18

Q: Let me start with the Fed since you are an expert on those matters - as an emerging market investor should you be happy, worried or confused as the message that came out from the Fed a few days back?

A: Non-tapering was a big sigh of relief for all emerging markets. From their point of view, I think they may have missed an easy opportunity. From India's point of view it is great, but the lead up to a tapering tends to be so difficult.

In the past we have talked about how Ben Bernanke, quantitative easing (QE1), QE2, had talked about or it will take us only 15 minutes to reverse these actions and it doesn't. It takes many months. This one was a sitter.

They had prepared the market, there was 140 basis point sell-off, USD 10 billion was built in, in terms of tapering so they should have just taken it because now to roll it back and with the new chairman to build the case again is going to be very difficult.

They are very smart people, but probably it was a missed opportunity.

From India's point of view, the swings around Fed tapering have just become too fashionable. We were swinging around way too much - whether they are buying USD 85 billion or USD 70 billion is not the biggest thing in the world; certainly not for India. But, yes, for the time being it was a major sigh of relief.

What people are betting on is that now the Fed may take a long time for the new chairman, it will be difficult for them to get their nerve to do this and so for all emerging markets and all risk assets- gold and equities it was party time. For India certainly it is helpful for the time being.

Q: Is the Fed maybe stuck at this point? It is probably finding it difficult to exit and at a time when US growth was once again beginning to just slip of the edges a little bit. Is it a dangerous mix which might have consequences for the future in terms of an overall global risk off if this continues and US growth disappoints a bit. That has been the strongest market of all. Do you think that would lead a bigger sell-off in global equities eventually?

A: Yes. This was actually a good time for them to step in and start taking some of this liquidity away, but sooner or later it has to happen. In some sense, since you prepared the market, one has gone through the sell-off it probably makes sense to take advantage of it.

One could almost see the guarded disappointment in a sense that even Rajan was exhibiting at the press conference because everybody was prepared. It was like one was prepared for an inoculation shot and then you are just told that it maybe two months down the road, it was just disappointing in that sense.

It buys us some time. The Indian current account deficit is in a much better shape given all the policy measures that they put in. Hopefully, it gives us enough time to be even better prepared. So that even it eventually happens it is not as bigger deal as it has been made out so far.

Q: Do you see this emerging market rally extending over the next few weeks or do you think that captures most of this emerging market rally or could it be run on for a whole lot more as India rallied 20 percent in the last 20 days?
 
A: Broadly, for emerging markets it could yet run a bit more. For India, this 20 percent in rupee terms and almost 30 percent in dollar terms is very large. Even when we last spoke at the beginning of June at the time of our conference, I was asked about the Indian equity market and my view is that we are broadly just going to be range bound. This is not enough in the fundamental mix yet to take Indian market to a new high even though at that time there was a lot of bullishness, so we just need to get this house in order a bit more.

We need to make sure that the RBI, which is the biggest participant to worry about we have full clarity and we know the road ahead. Until that clarifies a bit more what the road of rates will look like for the next 12 months, it will be hard for the Indian equity market to get super charged up and burst out to a new high. It is good that it has come back because there was a huge amount of negativity.

It is good that the policy makers swung into action and have announced a whole bunch of measures for inflows which is the right way to deal with the rupee issue rather than the liquidity tightening measures that had been announced.

The equity market felt a bit comfortable for it to now burst out and make a new high, maybe at an index level it can do but we know that beneath that and certainly in midcaps we are very far away so, that is the true picture of the Indian market. We are not in a situation right now to be all systems go bursting out into a new high. It is fair that we have come back a major way.

Q: Can you say that with certainty at the low that we saw a few weeks back, 5100 will hold out and do you see it being retested before the calendar is out?

A: Yes. I was thinking that there was some danger of going even slightly lower but those policy measures that were announced in terms of FCNRB and the tier I capital borrowing, the oil swap, that was a huge sigh of relief and that basically got markets comfortable that no more tightening measures will be implemented. The fear in the market basically has been – could this get much worse. Could they go from 10.25 to 12-15, I was asked by FIIs.

Could they hike even more and the fact that they moved in a different direction which is a more sensible and I have opinions on the whole liquidity tightening measure aspect. This is a much better way to go and that is what gave the market some relief so, yes, 5100 should be the low.

We are in a much better position now because the RBI has made it clear that they are not going down their path of further liquidity tightening measure. In fact, they are starting to roll them back. That is a significant statement and the repo rate will be the operational rate going forward. Those are all very solid and sensible things and that should give the equity market comfort.

Q: On the day of the policy though there was a negative reaction. It might have been because of the repo surprise, but do you think the equity market could have easily taken away whatever else he did with marginal standing facility (MSF) which was good that interest rates were not going to come down in a hurry in India, which is what might have been the hope when Raghuram Rajan took over. A lot of people were speaking about now interest rates gradually tapering down. Do you think that will have to wait?

A: After having many questions about the liquidity tightening measures which the empirical evidence bears out has not yielded the results. We have not had stability in the exchange rate. From July 15 to August 28, which was the worst point you have had implied volatility go to the moon, so clearly there has not been any stability.

The Indian rupee weakened 13 percent in that period, far worse than any other emerging market. Even Sri Lankan rupee and Brazilian real, everybody was far stronger than Indian rupee. So, what it was designed to do it did not achieve that and in the process it hurt growth. You hated the entire USD 1.8 trillion GDP with a plus 300 bps rate hike in an attempt to solve an USD 80 billion problem which was the wrong way to do it.

The hair’s that were being split in terms that this is not tightening, this is just liquidity draining, that is the distinction that only lawyers will love. The fact of the matter is for operational purposes the marginal cost of funds in India had gone up by 300 bps, in an economy that just simply could not afford it. It was on its knees and to hike by 300 bps is just not the right way to solve the problem that you are trying to solve.

It is heartening that at least on this policy they are seem to walk away from that aspect. They have clearly said that they want to rollback these extraordinary measures as quickly as they possibly can. 75 bps is a good step and the market may have focused on the repo rate a bit too much. There was just an element of surprise and people were sort of disappointed with that, but this is a very sensible stroke and it is honest. It says we had all these 4-5 different rates going around.

It confuses everyone, how much you can borrow at what rate and it is too clever. It is trying to solve things by saying this is the partial derivative and this will take care of the problem whereas in financial markets you need the totality, you need the sentiment. This is honest. It says we will go to the repo rate as the operational rate. We will roll these back as soon as conditions allow us and in terms of inflation it is a bit high and that is why the repo rate went up by a bit and is all perfectly fair.

July 15, when they did this plus 300 bps on my trading floor, we were talking that they would have been far better off hiking the repo rate by 75 bps or even a 100 bps rather than doing that plus 300 bps and in some sense this is going back that way. This is fair and even if it goes to 7 percent in three quarters, another 25 bps hike and they will not do it at the next meeting, they will want to take a breather and if the MSF rate comes back to 8 percent in three quarters, because they have said they want to maintain the 100 bps.

If 7.75 percent is the liquidity adjustment facility (LAF) rate, operating rate there is nothing wrong in that at all. Bonds at 8 percent still make sense because the next move after that should still be an easing move. CPI ex-food is well under control. From 11 percent it has come down to 8 percent. I know critics will say why are you taking out food, it is 50 percent of CPI, yes, but repo rate does nothing to attack food.

It is good if the debate is coming back to your old traditional parameters and you were being honest in terms of the indices that will tackle it. I actually feel this was a very good policy statement.

After two months of measures that were simply not helpful and they were not achieving the result the rollback that we saw in dollar-rupee was simply because the global conditions improved a lot and also we have started moving towards those inflow measures which is the right way to tackle this problem rather than a plus 300 bps.

For the moment market maybe disappointed, because it is just surprised by the repo rate, but this is exactly the right way to tackle the inflation as well as the rupee situation. I hope there will be more in the next meeting that this will get rolled back towards 9 percent or 8 percent in three quarters and they have said the repo rate could go in either direction.

Q: Where does this leave the bond market now? At 8.5 percent for the benchmark yield do you see the prospect of the yields softening over the next few months which will give relief to a lot of investors who are in Gilt or similar kind of maturity products or will they have to wait longer?

A: We got as bad as 9.40 percent during the height of those liquidity measures. From 9.40 percent we came down to about 8.15 percent. Today, we sold off because of this repo rate hike, but at 8.5 percent and if the repo rate even goes to 7 percent in three quarters or 8 percent over three to six months and the MSF comes down and the operating rate becomes 7 percent in three quarters or 8 percent, 8.5 percent on bond yields is still good value because after that given how weak growth is, you will with some lag resume an easing cycle, because the economy is far weaker than it was before the beginning of the year.

Yields are far higher. We would have given our right arm to get into bonds at 8.5 percent in April or May when yields went down to 7.20 percent and the growth is far weaker. So it is okay that they have hiked the repo rate, they are talking about inflation. Also, it is way too strongly demonstrated that we are going to be solid money people.

We are establishing our credibility as strong watchers of inflation and nobody should mistake what we are all about that it is always going to be easy money. That is good for a new team to establish those credentials and once the rupee has stabilised even if we go to 7 percent in three quarters the next move after that should be towards resumption of the easing cycle that used to take place. So bonds at 8.5 percent and corporate bonds at 9.5 percent are all still very good values in an economy that is growing at 4.5 percent real GDP.

Q: It looks increasingly likely that we are getting stuck at this four handle for the gross domestic product (GDP), earnings growth has been scaled back every quarter and now it has reached 0 to 5 percent for this year, how does the equity market progress against that massive headwind?

A: Equity markets need to digest these two way flows right now or these buffeting circumstances. One has a monetary policy that is coming more sensible in my opinion. One does have the growth concern but some of the growth concern was already built into the down move that we saw into the equity market. Equities will just be in a broad range for a while.

We just said this in June and that time it looked like a bit of a punt but you know I am use to having strong opinions on things. We have generally stayed quite constructive on the equity market even last year even when things were looking bad at 4800.

I have been able to see there are opposing forces that are going on, on the rate side, on the currency side. The market will just have to digest. It will be in a range for a while. The growth story now might improve so we have been the biggest critics in saying the six handle GDP that was being forecasted was simply not achievable. Throughout the year I have talked about it, it was simply not achievable.

Even five handle was looking a bit of a stretch so it is good that realisation has dawned, everybody is acknowledging that growth slow down is very serious and as soon as the currency situation stabilises they will be able to start getting back on to the easing cycle and that will be support for the equity market.

Year out or six months out the equity market will still be fine. For the next two-three months it may still need to waffle while one works on growth now, some green shoots of growth coming through and supportive monetary policy.

MSF is coming down so this operating rate coming down from 10.25 to 9.5 to 8.75 percent and on that aspect Rajan is absolutely right. We should think of those as easing back the tight monetary condition and that goes hand in hand with the acknowledgement that earlier what they were calling liquidity tightening measures was clear tightening. This is an easing back and this is how the market should read it. It did read today because it was just shocked by the repo rate but these are better situations for growth and the equity markets. Realisation will slowly dawn once the impact of this repo rate shock wears off a bit.

Q: What is the bigger challenge in your book as we look forward? Do you think it is the India piece with weak growth and weak policy or do you think the global risks are mounting despite it looking like a very benign liquidity situation since the Fed held its hand?

A: For the time being the global situation is supportive. What I was saying earlier about the Fed missing an opportunity is true. That will only come back to become a bigger problem if this punt goes on for too long. If it goes on for over a year then a lot of purists will raise the question that is it now becoming too easy money a culture? Is it just going on for too long? The fact that Bernanke is stepping down in January, I would have thought that he would have wanted to start the tapering which is politically a difficult decision and make it easier for the successor.

The successor is Yellen and she must have had a very prominent voice in this decision and if she favours it which is what the guessing is then that is okay. Then that means she is willing to shoulder the responsibility of this. By the way, he punted on the question of whether he wants another appointment and so, there is still that possibility as well. For the time being, the global situation is okay. It is not causing any problems. It is supportive for emerging markets in general.

It is helpful to India. If we utilise this breather appropriately to get the strong inflows that these policies are talking about which is the right way to tackle the problem and thereby reduce interest rates, overall, the operating interest rate in the country should keep coming down from 10.25 percent, to 9.5 percent to 8 percent in three quarters and then to 7 percent in three quarters. That should happen over the next three to six months. That is all good and supportive for the Indian economy and all asset markets.

Q: So this calendar year you think 5100-6200 could be the range still for the Nifty?

A: Yes. It could peak its head a bit above on the index, but if you look at the diffusion of single stocks the market is much weaker than what the Nifty is showing. It could peak its head above. Any meaningful break is difficult for a few months because we need to see the clarity on the monetary policy side.

If it works out on the trajectory that I was laying out and hoping, then there will be excitement in the equity market and then it will rally and break out to the new high. Until that clarity comes through, which will probably take one or two other RBI meetings it may just trade in a range.