UBS reasonably defensive on India in the global context: Bhanu Baweja

What is the likely impact on global growth because of coronavirus?

In short, quite severe. Global growth in Q1 is going to be a write-off because China practically shut down. That itself will mean that we should have expected a negative global growth number for the quarter, but cases out of China have accelerated strongly since, which means the slowdown will likely extend well into Q2. We are expecting 2020 to be the lowest growth year since the global financial crisis, which is saying a lot because we thought that last year was bad. This year, global growth is going to be barely above 2%, compared to a mean of around 3.6% over the last three decades.

Global central banks’ actions to combat the coronavirus hit to economies has not moved the needle for markets. Do you see more rate cuts ahead if the virus situation deteriorates?

Developed market central banks like the Fed and the Bank of England have clearly been targeting financial conditions. I don’t think they believe that they can control the economy if the virus was to spread; what they’re trying to do is to limit the damage from a second round hit from tighter financial conditions. Unfortunately, it will likely not do much for sentiment for now, as investors are singularly obsessed with the possibility of the spread of the virus. But that doesn’t mean central bank actions are irrelevant. I would argue there’s a lot of stimulus in the veins of the US economy. You could be looking at a very strong second half of this year if and when the virus stabilises. Even going into the virus, the US economy was pretty stimulated. The Fed had already cut three times in the second half of last year. Powell doesn’t think the US economy needs a lot of stimulus, but he’s sending a message that he stands ready. We think the Fed is going to zero rates. The incremental easing from ECB and BoJ is going to be much more limited.

2020 will be the lowest growth year since the global financial crisis. Even if we don’t see negative growth in China or India, it will feel recessionary.

-Bhanu Baweja, UBS

There are talks of fiscal stimulus in the US to combat the coronavirus as well.

People are not trading economic data or policy responses now. The only thing that people are trading are infection rates — how quickly it spreads and how quickly economies have to be shut down. For the moment, and I suspect that for weeks yet, the market call will be responding to one variable — which is the degree or spread of the infection.

Have chances of a recession increased because of coronavirus?

Yes. At 0.1-0.2% growth, Europe is already close. The US is in better shape although slowing fast. Countries like India and China have also slowed aggressively from much higher levels of growth. Even if we don’t see negative growth in these countries, it will feel recessionary. Asset markets are signalling a high risk of recession too.

Many global markets have slipped into bear territory. What should investors do?

If we are still discussing this virus in three months time, I have no doubt that we will be deep in a bear market. Both gold and fixed income are likely to do relatively well amidst the uncertainty. Investors should pay attention to the liquidity of their investments. You can suffer serious gap risk on illiquid assets, as markets shut down on you. If early indicators on infection rates and global policy support tell us things are due to get better, you want to move away from defensive allocations towards more risk-friendly allocations, likely available at better valuations, but for now the risks are skewed a little to the downside. Both gold and fixed income are likely to do relatively well amidst the uncertainty.

Do you see value in Indian equities?

India has had a major opportunity to get a greater share in global manufacturing and trade as China and the US have been engaged in trade war. Unfortunately, if the global economy is going to keep being hit by shocks, it is going to be difficult to get that reallocation. What you are then left with is an economy where the public sector borrowing is in excess of the financial savings. Crowding out of private sector investment becomes a very palpable reality quickly. We are reasonably defensive on India in the global context, independent of the coronavirus risk.

Are you looking to cut exposure to Indian equities?

Not now. Again, our exposure to India has not been very high. Now the market is catching on to the growth problems, and valuations have come off the peak. The story is not great, but one has to recognise that the price has also adjusted. If India is among the countries that can’t get the spread of the virus under control, there could be serious downside in demand, and this shock may expose fault lines of leverage that already exist in parts of the Indian economy. India is a very clear beneficiary of lower oil prices, but many investors make the mistake of judging Indian returns as just the contrary of oil prices. If oil prices are coming lower because the global economy is very weak, and capital is becoming more averse to taking risk, then the correlation between oil prices and Indian returns will be positive, not negative.

What is your reading of the OPEC-Russia situation on oil prices?

This seems like a pretty serious break in the oil market, similar to 2015. Inflation expectations collapsed then and developed market central banks took a turn towards even looser policy. I suspect that the same thing happens now. A pure positive supply shock should be good news for oil consumers such as India over the medium term, as disposable incomes of consumers and margins of industrial producers are buffered. However, even before last week’s OPEC-induced drop, oil had been trading very heavy. That was due to weak global demand, and that’s never a positive sign for risk assets such as equities.

What is your outlook on emerging market currencies particularly the rupee?

We are a little positive on the rupee tactically because it has moved quite a lot and the central bank, having accumulated reserves quickly, can stop the weakness if it so chose. However, bigger picture, we feel strongly that the rupee is not a competitive currency. Our spells of going long on the rupee are always quite tactical, never structural. To the extent that the balance of payments have improved almost entirely because weak growth has taken imports down, not because exports are doing well, we think concerns on the rupee should linger even with healthier external deficits.