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Last Updated : Apr 26, 2016 06:45 PM IST | Source: CNBC-TV18

Emerging mkts may fall 10%; like pvt sector banks:Morgan Stanley

Garner has an 'equal-weight' rating on India for now, but says it is capable of outperforming other emerging markets in the long run.


Morgan Stanley's Jonathan Garner expects emerging markets to fall around 10 percent from current levels. In an interview to CNBC-TV18, he says emerging markets are trading around 15 times forward earnings, which is expensive.

Garner has an 'equal-weight' rating on India for now, but says it is capable of outperforming other emerging markets in the long run.

He is bullish on private sector banks.

Below is the transcript of Jonathan Garner’s interview with Latha Venkatesh and Sonia Shenoy on CNBC-TV18.

Latha: The emerging markets have had a good run. While we gloat over India’s performance, other Brazil, Russia, India, China and South Africa (BRICS) countries have done even better. Do you think this can go on or do you think some hawkish noises from the Fed, some dollar strength can put a spoke in the wheel at least for May?

A: Yes, we have about 10 percent downside to our target price for emerging markets and we think that the earnings session is still ongoing and unlikely to reverse near-term. We expect gross domestic product (GDP) growth in emerging markets to be below 2015 levels across our coverage universe.

India is a rare counter club where growth will probably be a little stronger than last year and in terms of the valuations, we think they are priced right at the high end of the historic range, somewhere around 15 times forward price-earnings ratio (P/E) on our earnings estimates which is significantly expensive.

Sonia: What is the sense you are getting for the next three-six months or even longer for the Indian markets?

A: We are equal weight on India in emerging markets. They should continue to benefit from the ongoing reform agenda. It is still a very attractive characteristics and unlike many of the other Asian countries the levels of household leverage is quite low. So, we also observed that the Indian corporate sector has relatively higher return on equity. The problem is that valuations are reasonably small at current levels. So, again in terms of upside to the Indian market, it is minimal, if at all, at current levels.

Latha: What has gone good for Asian emerging markets has been the rally that we have seen in commodity prices, especially steel and metals. You see that continuing? It appears to be a restocking and some bit of Chinese fiscal stimulus. Does the good run continue for those commodities and therefore for some of those emerging markets?

A: There is an underlying demand recovery in China. We have been writing about that today, but we expect some sort of sustainability by the time we get to the August-September timeframe, China’s growth will be starting to slow down again. It has been heavily credit driven, very significant expansion of credit in China and the rally in commodities will be under pressure in the second half of the year but certainly quite an interesting speculative element at the moment, the surge in commodities futures trading in China.

Sonia: So, commodities to be under pressure in the second half of the year. I was going through your note and interestingly, you have downgraded India Software to equal weight. What is your concern?

A: The advanced economies are under pressure, and in terms of posting the financial sector in certain other big uses of Indian software firms is engaged in a cost reduction episode and again on the valuation side we think valuations are relatively foggy. That said, the Indian software and pharmaceutical sectors as well as the private sector banks are sectors which we have historically favoured more often than not.

Latha: What at all are you overweight on India?

A: As I mentioned, the private sector banks. Those are always names that we like, but I cannot mention specifics.

Latha: How much are you expecting by way of rate cuts in India?

A: It is possible that we can get at least one more rate cut and that is a bit different from our view on the rest of the emerging markets where in many cases, the countries are more externally constrained. But in general, with the Federal Reserve raising interest rates, we expect one hike by December timeframe. It is not realistic to expect substantial rate cuts from emerging markets. For example, for China we now expect interest rates to be on hold.

Sonia: What is your slightly longer-term view on the Indian market? I heard you mention that you do not expect too much of an upside, so is it fair to assume that the rally which we saw since the start of the Budget day which is almost 15 percent now is not the resumption of a bull trend in India?

A: The Sensex is still down yet the emerging markets index is up. So, if you look at the overall emerging markets, we have had some resumption for fund inflows for four or five weeks, but we do not think that will be sustained given our concerns around growth. In terms of a longer run outlook, we do think India’s capable of outperforming the rest of the emerging markets and that is because of the long run attractive characteristics.

Latha: Two central bankers will speak and the markets will react on Thursday. What is your sense of the near-term trajectory of the dollar index (DXY)? Does it go towards 94, does it cross 95 and the slightly longer term, over the next couple of quarters.

A: We think that the dollar will strengthen from here, and going forward at the end of 2017, we think it will end up around about 112. So, that is a substantial gain from current levels. So, we are dollar bulls. We think that the Federal Reserve hiking rates is still very important, albeit it will happen in December. Last year of course, we waited all year and then eventually got a hike in December. We think the dollar will react to a likely further easing of monetary policy in Japan, Europe and China and begin to strengthen again from here.

Latha: Won't that not be disruptive, 112? I have not heard anyone say that.

A: Yes, it is the key reason why we think that you want to sell emerging markets. We have a currency downside risk in our portfolio.

Sonia: You did mention that you expect the Federal Open Market Committee (FOMC) to hike in December. What about the policy that has kick-started today? Do you expect a bearish tone from Janet Yellen?

A: We do not think there is a hike this meeting. It is possibly that their guidance has changed in relation to June, but we think most likely that we will be waiting till December. But I would again emphasise that that is the only major Central Bank that is going to be able to hike interest rates. And that is going to have implications for the dollar.

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First Published on Apr 26, 2016 10:48 am
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