 "Jan Dehn")
Global equity markets had a rollercoaster ride last week. Jan Dehn, head of research at the London–based Ashmore Investment Management, tells Puneet Wadhwa that he remains bullish on India and suggests investors buy equities on any correction. Edited excerpts:
What is your interpretation of how the global markets have reacted to the spike in bond yields?
The extreme sensitivity of the US equity markets to even a sniff of inflation is indicative that developed markets’ assets have not priced in any of the risks associated with higher inflation or the associated monetary tightening.
Emerging market (EM) assets have held up well in response, which is due to stronger technicals. Risk aversion episodes have been excellent entry points for EM investors, who have been able to add about 300 basis points (bps) of alpha in fixed income and 250 bps of alpha in equities by actively buying into EM assets during months where the volatility (VIX) index has spiked by more than 10 points.
The return of inflation would likely usher in a period of Dollar weakness as soon as the initial reaction subsides since the US Federal Reserve (US Fed) would not be able to hike rates enough to kill inflation without killing the economy. This is a wake-up call for investors -- get out of developed markets. They are heavily overbought, offer no value and may lead to many more losses going forward.
What are the key risks that investors should keep a tab on?
By far, the largest source of risk comes from outside India. Financial markets in developed countries are completely distorted due to years of quantitative easing (QE). The QE is like a drug. When it is withdrawn, there is a pain. This is why we are seeing such an outlandish reaction in the US equity markets to even a sniff of inflation.
Clearly, markets have been operating on the assumption that monetary policies can stay easy forever. However, these events are not India specific. The Indian monetary policies are credible. Investors get nervous about India just because developed markets have a problem, but they should ruthlessly exploit this irrationality by taking the opposite side of the trade.
What is your portfolio strategy regarding India?
We like the Indian story. We are bullish on the growth outlook and we think the Budget has delivered an important positive: less uncertainty about the political outlook. While the Budget maintains a trend towards tighter fiscal policy, it supported the rural population, which increases the odds of continuity in the next year’s general election. Consumption is going to be strong. Banks are going to do well. Infrastructure will pick up. Think of this as a supply-side driven pick up in the business cycle. Good for cynics.
How are foreign investors viewing India now?
Not the most attractive. The Indian markets are expensive relative to other markets, especially in equities. Indian fixed income is more attractive, mainly because the government insists on keeping out foreign investors using quotas. This means that the borrowing costs of everyone in India are much higher than they need to be. As a bond investor, I like this very much. As a borrower, however, I would be unhappy.
How do you see the bond markets playing out over the next few months?
Real yields are high enough in India, but they are not nearly high enough in the developed markets. There will be volatility coming from overseas, but the impact on Indian bonds will mainly come from the supply-side within India. The recapitalisation of banks will help many institutions to shed bonds, while the fiscal deficit will push supply up. This provides a short-term negative for a duration, but it is only a temporary negative. The Reserve Bank of India’s credibility on monetary policy remains sound, so we like the idea of buying bonds into weakness.
To what extent can long-term capital gains tax (LTCG) hurt investor sentiment?
I think LTCG is simply a reflection of the gradual advancement of the Indian market. Why should wealthy holders of stocks be able to get income for free when everyone else pays the income tax? Developed markets tax all their capital gains and so should India as the country develops. The pain in the equity market will be a one-off event because once the capital gains tax is factored into investors’ expectations of after-tax returns, the adjustment will be complete.
