'Borrowing cost for Indian firms to remain high'

Q&A: Gonzalo Pangaro, lead portfolio manager, T Rowe Price

The Baltimore-headquartered T Rowe Price manages more than $269 billion in assets (as of March 31). Gonzalo Pangaro, lead portfolio manager, emerging markets (equity strategy), speaks to Vandana about India’s high fiscal deficit and how this will adversely impact the Indian companies’ borrowing cost. Excerpts:

Are global equity markets headed for a deeper correction?
After the ‘relief rally’ in global markets, we are not surprised by the recent correction. We believe that short-term volatility in equity markets will persist for some more time. While the global liquidity crisis may be past its peak and some data points show signs of improvement, the global economic environment remains challenging. In the longer term, we believe markets are likely to lead economic fundamentals during the gradual recovery.

Emerging markets have been outperforming others for a while. What is your view on them, especially India?
The emerging market asset class recorded its best-ever quarter in the second quarter of 2009 in dollar terms. Investors, recognising how oversold many stocks had become in 2008 and early 2009, switched to these assets.

According to Emerging Portfolio Fund Research (EPFR), emerging market equity funds recorded inflows of $26.5 billion in the second quarter —the highest in a single quarter since EPFR began tracking emerging market funds in early 1990s.

The long-term story remains intact, driven by higher economic growth than the developed world, stronger macro fundamentals than in the past, favourable demographics, rising domestic demand and greater industrialisation. India plays well into these themes.

How did the Budget impact the foreign institutional investors’ outlook?
Many investors were likely unsettled by the Budget, in which the fiscal deficit was projected higher than expected. Given that in the next one-two years, the government’s financing needs are high, it does not bode well for interest rates. This means borrowing costs for Indian corporates may not come down much further. This will weigh on certain sectors such as infrastructure that rely more on borrowing. Despite this, we were heartened by the government’s focus on growth and infrastructure development. We believe the Budget is just one of several factors dragging down the Indian market. Also, we’ve seen a number of qualified institutional placements which the market has had to absorb. But most likely, this is a period of consolidation after the post-election market.

Are Indian valuations too high?
We look at each company individually and make comparisons on a range of valuation metrics. Our Asia-based analysts compare the quality and valuation of Indian stocks with local, regional and global peers.

Overall, Indian valuations have rebounded sharply from near all-time lows at the end of 2008. At around 15x forward price earnings (P/E), India is trading at a premium to its history and to other emerging markets (the broad asset class currently trades at around 12x forward P/E). We have not been surprised by the recent correction given how high valuations have risen in 2009.

Which are the sectors that will drive growth this year?
Globally, in the emerging markets space, we remain focused on sectors that are exposed to continued rises in domestic demand such as consumer staples, financials and wireless telecom and internet-related industries.

Given the stimulus push by governments, we are also focused on fixed asset investment beneficiaries, such as infrastructure, and certain materials such as cement.