Equities may correct on debt ceiling uncertainty: JP Morgan

Debt ceiling uncertainties will cloud US equities but corrections will be modest, says Andrew Economos of JP Morgan. Speaking to CNBC-TV18, he said fund outflow from fixed income will likely support equities and found concerns on early QE3 closure overrated.

He does not hold much faith in Indian markets and predicts a consolidation post 2012 outperformance. Economus says a lot of performance is hinged on follow-through policy measures. Below is an edited transcript of Andrew Economos's interview on CNBC-TV18 Q: There was a big rally post the clearance of the fiscal cliff bill, but we have not seen too much follow up after that. How are things likely to move?
A: We will have some disappointment in equity markets. You should get a pullback anywhere to the tune of 2-3 percent using the S&P 500 as global proxy for equities. Or you may be disappointed around the fiscal cliff resolution which is effectively just the patch and then anticipation of more bickering in the US political scene moving into mid to late February in anticipation of discussions around raising the debt ceiling. Q: Do you think the pullback will be only 2-3 percent, nothing dire than that?
A: Yes, I do. It will be a technical pullback from oversold levels. We had a nice rally in 2012, the end in particular. Even the laggard markets like China caught up and again we have to focus on the facts. We are still constructive on risk assets because we still have plenty of capital sloshing around the system, very low cost of capital with low interest rates, ample liquidity, plenty of money on the sidelines and ultimately modest, non-inflationary growth in most parts of the world.
Combine that with a financial system that continues to heal, tells me that confidence will increase and we will start seeing more money coming out of fixed income as yields get compressed, and into the risk markets, in particular equities. Also Read: Mkt in sustained upmove; stay long: Sudarshan Sukhani Q: Where does India fit in this picture? We are also getting into an earnings season out here. There are expectations that fuel prices may go up. On balance do you see India outperforming?
A: India will move sideways. It had relative outperformance in 2012. The Sensex was a surprise as foreign and local investors gave this coalition government the benefit of the doubt that they would be able to move forward with a fairly ambitious program of liberalisation and reform. In reality, they had been slightly disappointing.
Investors are going to wait and see as to whether or not there is a continuation of this impetus, of this momentum towards more economic reforms. You have a weak coalition government which is proving ineffective. The ball is in the policymakers’ court and the politicians’ court as to whether or not they will continue with the programs that both local and foreign institutional investors expect India to undertake, so, I would say sideways market. If we continue to hear good news out of the coalition UPA-BJP government then the investors will start coming back in.
_PAGEBREAK_ Q: The Dollar Index has recovered a bit in the last few days and the euro has not made much headway. Do you sense the possibility of any kind of risk off in the near-term?
A: We will have a risk off and that is a continuation of what I mentioned earlier. Investors globally have anticipated better news on the policy front, the fact that the global economic system is coming back together, the financial system is holding up and policymakers are onboard in terms of containing tail risks. Therefore, we had the risk on trade.
It is starting to pullback as investors take profits and look for the next series of signals to differentiate them from the noise, the next series of signals from policymakers as to where they are going, because ultimately the big risk still is policy or regulatory risk around governments and politicians. So the pullback is necessary.
The dollar is a global tale and most important thing to watch. The DXY, dollar trade weighted index came back a bit. It will bump here at its level and then you will start seeing a rally, the DXY will selloff, the dollar will get weaker in other words and then we will start seeing risk assets. My guess is that occurs sometimes in late January.

Q: Any thoughts on gold which had a very sticky patch of late?
A: Gold has been an interesting situation, because ultimately commodities and gold in particular are part and parcel of this global reflation or a risk on trade as you suggest. As a result gold has been moving sideways, slightly down. It is weak, it has reached some technical levels, it should probably bounce.
If you agree with me that we should see a risk on or risk reflation trade comeback on in late January into early February, you are using all the political uncertainty and volatility as a buying opportunity. In other words volatility is your friend, use that as a buying opportunity and then gold should participate in this risk on rally. But my overall view on commodities in particular gold is that they are risk assets and should be traded. You should be very careful about watching the technical signals as though when you come in and come out of your gold trade. Q: There was a little bit of volatility recently on a suggestion from the Fed minutes that maybe quantitative easing will ease off or wane off and the world might not see as much of liquidity as it saw in 2012. Is it a legitimate apprehension or overrated?
A: I think it is overrated. The Fed is just trying to be very democratic and evenhanded at least in their public comments. Ultimately, it is all about the economy and the US economy continues to bump along at about 1.5 percent GDP growth rate, unemployment is still very stubbornly high, output gap fairly broad.
You are not seeing a big pick up in economic growth and US corporates are still sitting on a bunch of cash. So, the Fed will be easier for much longer than they laid on publicly, ultimately it is going to go past 2013. So QE in some shape or form is in the cards for the rest of 2013 and possibly into 2014.