India to perform in-line with EM index: Morgan Stanley

Jonathan Garner, chief Asian and emerging market equity Strategist, Morgan Stanley expects US dollar to strengthen further. He believes sectors like Indian software that are able to benefit from a strong dollar will help India to perform broadly in line with the overall emerging market (EM) index.

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Speaking to CNBC-TV18 on the emerging markets he says countries like India, Indonesia and Asia which have external imbalances, the cost of dollar funding is going to be an issue going forward therefore, he expects continued pressure on money market rate. Below is the verbatim transcript of Jonathan Garner's interview on CNBC-TV18

Q: Is it a tactical pullback rally in emerging markets or do you think it is a more powerful surge?
A: We had put a note on Thursday arguing that enough catalyst fallen in place to allow a near-term rally, specifically the change in Ben Bernanke's comments from the Fed, a slight increment in funds flows and also reduction in China money market rates. But a lot of fundamental pressure points on Asia ex-Japan and emerging market particularly the slowdown in growth that we are seeing in many countries. Q: There is a discernable liquidity trend that's played out. Is market overstating the case given what the Fed had to say about not rolling down their liquidity programme? Should EMs be prepared for much lesser liquidity sooner or will it be a comfortable patch for a while?
A: On Thursday, we got some relaxation in that regard, but fundamentally we still think that dollar is going to strengthen. For countries that include India, Indonesia and Asia that have external imbalances, the plighted cost of dollar funding is going to be an issue going forward. Therefore, we should expect continued pressure on money market rate. Indonesia for example Thursday hiked rates by 50 bps.
 
Q: Given the point regarding a growth scare as also the twin deficit problem that India has specifically on this market, what would you expect to see?
A: India has weak growth overall, so there are significant points that emphasise around why to put return on equity (ROE) in India. Sectors like software particularly are able to benefit from a stronger dollar environment and a lower local cost environment on an exchange rate basis.
 
In general, we would expect India to perform broadly in line with the overall EM index. So, because our valuations are relatively low, we would be looking for base case returns, it could be back into double digits from hereon out into the year, but the bear case downside risk, if China loses control of its growth environment, so if we get much more aggressive spike in the US rates then our bear case downside is probably 20-30 percent. Q: Do you think emerging markets like India would have to do with less capital market inflows or liquidity inflows over the next year or so given the way US bond yields have been moving and the general note that is being stuck in the US?
A: Yes, we do think that. There are some countries which are far more vulnerable than India, particularly Brazil and South Africa in that regard, but India is one of the more vulnerable within the Asian context besides Indonesia.