Trump is the biggest geo-political risk to global economy: Nick Pollard

The MD (Asia Pacific) of the CFA Institute also said India was well placed among emerging markets

Trump’s unpredictability and his break with established “norms” pose a risk to the global economy, says NICK POLLARD, Managing Director, Asia Pacific, CFA Institute. In an interview with Ashley Coutinho, Pollard says India appears better placed than most emerging markets because of its growth potential, the government’s reforms measures and robust macro-fundamentals. Edited excerpts:

How do you view Trump’s presidency thus far and its implications for the world economy? What are the key risks to global markets?

Earlier this year, we surveyed our members on the impact of political uncertainty on asset management and received more than 1,400 responses worldwide. The political risk viewed as having the single biggest impact on investment strategies is Donald Trump. His unpredictability and his break with established norms in international relations or bringing unanticipated changes to US policies, all pose a risk to the global economy. However, geopolitical risk is not all negative. It offers the investment management industry an opportunity to redefine and optimise their role. Now, more than ever, investors need high-quality investment managers to enhance and protect their wealth.

How do you expect the trajectory of interest rate hikes by the US Federal Reserve to pan out in 2017?

The US Federal Reserve has indicated a gradual raise in short-term interest rates. We can expect more increase by the end of this year. They recently raised their key interest rate by 25 basis points (bps), a third rate hike since the financial crisis and the second in three months. The rate hike is expected to make emerging market economies vulnerable to capital outflows. However, a country such as India is well placed than other emerging markets to negate the impact of higher interest rates because of its stronger economic growth and impressive foreign exchange reserves of more than $369 billion. Indian Prime Minister Narendra Modi-led Bharatiya Janata Party’s recent legislative victory in Uttar Pradesh is also positive for India’s sovereign rating, as it shows popular support for the government’s policy agenda and will facilitate implementation of reforms.

The US market has enjoyed a steady bull run, the second longest in its history, since March 2009. However, Larry Fink and the US Fed, among others, have expressed concerns about the high price tag of US equities. Do you think US stocks are overvalued?

If a stock price is high and earnings are low, it will have higher P/E ratio (price-earnings ratio), and therefore may be overvalued. Right now, the trailing 12-month P/E ratio for the S&P 500 is 26.4 as on 10 April 2017. Historically, this ratio has averaged 15.64 since 1871, so the valuation looks to be above average. The main concern is that US stock investors are highly optimistic about President Donald Trump’s plans to stimulate economic growth with tax reductions, infrastructure spending and red-tape reduction. And, this optimism has resulted in overstated economic and stock earnings estimates. A failure here in pushing economic reforms agenda could derail the promise of “massive” tax cuts — a pledge that has underpinned the current rally on Wall Street. 

Investors are once again piling into emerging markets, drawn by an improving global economic outlook and favourable stock valuations. The MSCI Emerging Markets stock index rose to a nearly two-year high in March, led by rallies in China, Korea and India. What is your view on the region?

Most investors’ allocation to emerging markets has been driven by their desire to get manufacturing and growth exposure. That said, emerging markets face a variety of headwinds, such as high debt levels, protectionism, or issues pertaining to structural reforms. But, India is better placed than any other country in Asia, not only because of its current growth but also because of its proposed reforms. India has shown persistent growth, reform bent in policy thinking, and stability and strength in its macro-fundamentals, such as inflation, fiscal deficit and current account deficit. Its growth potential will result in a bigger share for India within emerging markets.

One concern with regard to India is that valuations have run-up significantly in the absence of earnings growth. Is this a cause for worry?

Positive global (growth-related), domestic (reform-related) developments and robust liquidity are the reasons valuations are at the higher end. While there is some concern about the valuations, we remain positive on India from the medium to longer term perspective owing to inherent structural strengths of the economy, bottoming of corporate profitability and prospects of domestic flows. The deepening pools of domestic savings have made India’s financial markets and its equities a better destination for global capital flows.

It’s also an exciting situation for the investment management industry — the key here is to follow best practices with the highest standard of ethics and bring transparency in their communication to investors, who are laser-focused on returns.