Dear Reader,
Profiting from the misfortune of others is generally frowned upon. But for a country like India, suffering the after-effects of misguided economic policies that emanated from the developed economies, a recession there may be sweet revenge. Indeed, it may even be just what the doctor ordered to revive the Indian economy.
A recession in the West will, first and foremost, lower crude oil prices. We had a preview of that this week, with the Brent crude price falling below $100 a barrel, as fears of an impending recession gripped the US markets. Metal prices have been falling for quite some time now and copper prices, seen as an indicator of economic health, have plunged almost 20 percent in the second quarter. Since inflation in India is mainly the result of supply-side pressures, falling commodity prices will cool inflation, lower the trade deficit and bolster the rupee. That in turn will ease the pressure on RBI to tighten monetary policy and raise interest rates. That will support growth.
To be sure, decoupling is in the doghouse these days, after the Global Financial Crisis put paid to fond hopes of us remaining immune to the carnage in the West. But this time, we have a buffer in strong domestic inflows into equities, which have supported the markets in spite of massive selling by foreign portfolio investors. We also have a large war-chest of foreign exchange reserves. Of course, a recession in the West will hurt exports — textile exporters are already facing demand headwinds — but the Indian economy is mainly powered by domestic demand. And while faster growth will lead to more imports, which will expand the trade deficit if exports are sluggish, Gaurav Kapur, chief economist at IndusInd Bank, says a current account deficit due to higher investment demand will be funded by capital inflows in the shape of foreign direct investment. A prime example is Australia during its mining boom, he says. As Ruchir Sharma wrote in this FT story, free to read for MC Pro subscribers, emerging markets are in better shape than many people think.
The India Composite Purchasing Managers Index (PMI) for June reflected that strength of demand, although unfortunately it also signalled high inflation. Our Economic Recovery Tracker indicated a bright start to July, with both consumer sentiment and employment seeing gains. Corporate results show a mixed picture —lower volumes for Marico and Godrej Consumer Products, but volume growth for Dabur India. But as my colleague Ravi Ananthanarayanan points out, a reversal in commodity prices, even as product prices have increased, shows a path for revival of earnings in the fast-moving consumer goods sector. Titan’s June quarter results reflect strong demand for the barbarous relic, which led a panic-stricken government to hike import duty on it.
The Indian economy still has some way to go before it gets back on track. Auto retail sales have improved, but it’s still a long haul to the pre-COVID peak. Airlines still have rough weather ahead of them — we had an article on whether IndiGo can keep its flock together. Steel companies have been scalded by the export levy. The windfall tax has taken the wind out of the oil sector. Our Monsoon Watch indicator says that while cumulative rainfall is good, its distribution is not, with some regions getting too much rain while other areas are parched. Kharif sowing is still sluggish.
Of course, it’s far from certain that commodity prices will fall further. In crude oil, we have a structural demand and supply imbalance. On industrial metals, a UBS research note says, “Improving Chinese activity and secular demand factors should provide a sufficiently strong demand buffer to keep market balances tight.” In fact, the JPMorgan Global Composite PMI accelerated in June, mainly due to the upturn in China and our analysis of the prospects of metal stocks advised investors to keep a close watch on Chinese fiscal stimulus.
In the US, the Atlanta Fed’s nowcast of GDP shows a sharp contraction, while the Cleveland Fed’s nowcast indicates inflation at 8.7 percent — in short, stagflation. If high inflation results in the Fed continuing to tighten in the teeth of a recession, that will keep the USD strong, which is not good for the rupee. And a weaker rupee offsets the impact of lower commodity prices, which is why the RBI has been defending the currency.
What is the investor to make of all these macro developments? The US markets are currently alternating between bipolar bouts of depression over the impending recession and newfound faith in the ability of the US Fed to manage a soft landing. Or they are trying to look beyond murky 2022 to the blue skies of 2023, when the Fed will cut rates. The close correlation between central bank liquidity and equity prices is brought out in this chart.
My colleague Anubhav Sahu tried to answer the question: What does the US Fed’s recession vs inflation dilemma mean for investors? This piece says the markets will rebound strongly once we are past peak inflation and peak interest rates. In that event, FII flows are likely to come roaring back. The problem, though, as this chart points out, is that India’s market valuation is still elevated, relative to its peers. Pankaj Pathak, fund manager at Quantum Mutual Fund, says much of the increase in the policy rate is already priced in by the bond markets. Jayesh Mehta, Bank of America’s managing director and country treasurer, says the flow of foreign funds will start improving from October.
Given this backdrop, what stocks should investors look at? This week, we analysed the prospects of Uflex, given strong packaging demand from e-commerce; the private life insurance stock that offers the best risk-reward ratio; whether West Coast Paper Mills will benefit from sector tailwinds; whether PI Industries will beat domestic agrochemical players; IEX — a stock that offers both value and growth; Sapphire Foods, whose valuations are at a steep discount to other QSR players; whether KIMS can replicate its healthcare success in other regions; whether Power Grid investors need patience; and finally, a buy-the-dip candidate.
We also wrote about the revolution at India’s e-commerce marketplace, whose crucial test lies ahead; how Indian housewives have long ago figured out how to beat food inflation while fighting climate change; the road ahead for digital payments; why India needs retail participation in fixed income markets; the pauperisation of small savers, caught between the pincers of high inflation and low deposit rates; and why Russia should fear the appreciation of the ruble against the dollar. We also had FT stories on China’s struggles to revive its property sector and the failure of US climate leadership. In politics, we proclaimed that choosing Draupadi Murmu as its presidential candidate is a masterstroke by the BJP.
Our regular features this week included The Eastern Window; GuruSpeak; The Green Pivot; Start-up Street; Personal Finance; Crypto Conversations; and Strategy Lab, where we backtest the trading strategies submitted by you.
And finally, while it’s all right to hope for a recession in the advanced economies, we must keep our own house in order. As Harry Truman, a US president, is supposed to have said, “It’s a recession when your neighbour loses his job; it’s a depression when you lose yours.”
Cheers,
Manas Chakravarty
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