Impact of yuan inclusion to IMF reserve may be gradual: JPM

The impact of yuan inclusion in IMF reserve currency will be a lot more gradual than what perhaps investors envisage, says Brijen Puri of JPMorgan. The International Monetary Fund (IMF) is likely to give the yuan a historic vote of confidence on Monday when it includes it in its elite club of major currencies.

In terms of flows too, the inclusion — if it happens — may not be material as China would want to demonstrate that its currency is relatively stable, he says. China is looking at a more structural shift there.However, despite the chances of the yuan being included in the IMF basket of major currencies, the Chinese market is falling. Shane Oliver, head of investment strategies and chief economist at AMP Capital, says the fall is because several Chinese brokerages are under investigations and "..the Chinese market is very much a momentum-driven market."

But as far as India is concerned, Puri believes the country is likely to remain relatively attractive in the emerging markets (EM) space.Below is the verbatim transcript of Brijen Puri’s interview with Latha Venkatesh and Sonia Shenoy on CNBC-TV18.Latha: The announcement is expected from International Monetary Fund (IMF) to include China in the special drawing rights (SDR) basket today but it kicks in a little later, probably next year. What should investor worries be, that Asian currencies and Asian countries will have something to worry about yuan depreciation? A: On the yuan inclusion in the IMF basket, if it does come across, rather if it does come true, the impact would be a lot more gradual than probably most investors envisaged.  One, SDR per se is outside of the IMF and the central bank reserve facility; it is not very well traded. Secondly, in terms of the immediate impact, even in terms of flows it may not be as material. Thirdly, China would want to demonstrate that the currency is relatively stable even though moving with markets and therefore what we have seen them do is rather than target absolute levels what they have been looking at is, looking at the differential and the volatilities in the onshore yuan market and the CNH market. So, really China is looking more at a structural shift there. So, immediately don’t think there will be as large a material impact on the other Asian, the proximate causes, the Fed, etc are probably going to impact it a lot more over the coming six months to a year.  Sonia: The talking point this mourning is the way the dollar index has shot up to above 100 and the concomitant impact it would have on emerging market (EM) currencies. What is your view on that and the impact it would have on the rupee? A: On the DXY, our house view is that if the Fed goes as planned, so it hikes in middle of December and shows a gradual path, maybe a hike a quarter into next year, we think there is another 3-4 percent of appreciation on the DXY that we could look at; that is really the base case scenario. Translating that into other currencies outside of the majors in the EM space of course there will be the impact felt and some of that we are also witnessing in dollar-rupee, the way it is reacted over the past week to 10 days or so. We think in the run up to the Fed, we could see some more pressure because really while we have depreciated a bit against the US dollar, I think we have not depreciated much or appreciated a bit against the others as the others have depreciated a lot more. So, what we are seeing in rupee is also part of a catch up move what we have here. Latha: Where does it go, you see the rupee at what level by the year-end and by the financial year-end? A: I think in the short-term maybe 67-67.5 per dollar is possible. However, I would think once we have the Fed out of the way and the Fed talks about a gradual path, then there would be somewhat differentiation coming within the EM space. Fundamentally while global commodity prices remain depressed and oil remains within the kind of ranges that we have seen, fundamentally the twin deficits of India remain under control. Given that and the higher carry or interest rates in India, we think India would yet remain relatively attractive in the EM space. Therefore we don’t think there will be much follow on depreciation. For the year-end maybe back down to somewhere around 66-66.5 per dollar is where we think and then maybe an annualised 3-5 percent depreciation trend continuing post that. Latha: What are you expecting tomorrow from the Reserve Bank of India (RBI), anything at all that would worry the bonds or the rupee?A: I think not, on both counts, one, the RBI has kind of tempered market expectations in terms of looking at where consumer price index (CPI) is. Given where CPI is we think the RBI remains on hold. What it will do is caution around the recent mini spike up on pulse prices and therefore a flowing through the rest of the CPI basket. However, it would really put a lot more emphasis on the Fed and therefore we think from the Indian market, both rates and FX perspective, we don’t think the RBI policy will do much because RBI will remain on hold waiting for impact of Fed and going forward the Budget because in light of the 7th pay commission that also becomes important.Latha: The best bull work against global threats like these is growth. If you are the only country growing then that was Raghuram Rajan's answer last time when somebody asked him how would you react to the Fed rate hike, when is that growth coming, the auto sales numbers for December are expected to be good, better than the previous months, do you think growth is here finally?A: If you look at three parts, consumer, government and private sector, I think the consumer balance sheet is obviously very good. You are seeing that now because the anecdotal evidence we have got on consumer discretionary has been pretty okay for the festive season. So it does seem that whether you look at auto, retailing etc, there is some pickup in demand. Lot of corporate growth is linked to the global scene unfortunately. For example, you are seeing so much stress in exports.Lot of sectors like oil and gas, metals linked to global prices and those are heavy drivers of capex, so if you see pure domestic sectors, we look at roads, railways, defence, power transmission, lot of these segments are definitely showing signs of pick up and I guess a lot of it is courtesy the work the government has done but there are certain things about the globe, which we are pretty helpless about.Latha: So you don’t think earnings growth is going to be reflected in Q3 numbers in January?A: I wouldn’t be very gung-ho about saying that earnings growth is going to rebound very sharply because if you have lot of these big sectors like oil and gas and metals and internally the real estate is becoming a big drag for the economy. Lot of the cities, the transactions in real estate are not picking up which obviously affects downstream industries like cement, steel, consumer durables to a certain extent. So when you have these headwinds, I think you will see certain pockets grow and maybe when the globe stabilises or there is a bit of a pickup in global demand that is when I think you will most likely see a very wide index led earnings growth market.Sonia: What about the auto sector, you have a fair amount of exposure to that sector in your funds, in fact, auto at 6.5 percent is at a 52-week high in your ICICI Pru Balanced Advantage fund and now we are seeing the new cycle turn a bit where there is a revival in sales. Is it still a good time to invest into the sector?A: I think purely both from a bottom-up and top-down perspective, this is a great sector to be because as I said the consumers balance sheet is the best in the economy today and obviously in terms of revival that is where you are likely to see the first piece of action and that is kind of playing out because passenger vehicles have been one of the best segments over the last one year in terms of growth.From a bottom-up perspective typically what we have seen is this sector has good balance sheets, fairly good corporate governance in terms of the industry. But having said that, the sector has been probably the only cyclical sector, which has done well over last three-five years. So we are positive on this sector but we don’t think valuations are cheap right now.Latha: In 2016 what may you incrementally add you think, going by the hunch and going by the trends?A: I think probably the more interesting segments in the market will be a slightly deeper cyclicals like financials, capital goods, pieces of infrastructure, logistics, because if you see on a three-five year basis, obviously the defences have done very well. So lot of stocks in fast moving consumer goods (FMCG), pharmaceutical and IT to us look quite expensive at this point of time.However, you need to calibrate yourself with the global situation as well. So if you take a capital goods company, anyone who has exposure to roads, defence, power transmission etc is doing well but if in the portfolio you have things like oil and gas, real estate, metals that part is obviously not doing well. So it depends on the portfolio of the company as well.