Indian and Global Macroeconomic environment Jan 2012
Summary • The global growth is expected to slow in 2012 as the euro zone enters recession with knock-on effects to the rest of the world. The US economy should be resilient, while reconstruction spending should support Japan. However, a euro breakup could trigger a sharp drop in euro area GDP, tip the US into recession and create non-linear effects in Asia. • India’s GDP growth may remain muted in both FY12 and FY13 on lagged impact of RBI tightening, high inflation, global outlook, anemic investment, poor consumer and business confidence, slow pace of market-friendly reforms. Growth might revive in second half of next fiscal if reforms get a push after the state elections. • Inflation has peaked and may start coming down sharply now on high base, slowing growth, lower commodity prices. RBI has signaled a reversal of tightening cycle (or rate cut) going forward. • Fiscal deficit in FY12 is expected to be higher at around 5.3%-5.5% of GDP. Impact of additional borrowing will be negated by RBI’s OMO ( Open Market Operations). Government might try to keep fiscal d fi i lower deficit l next year by b implementing i l i oil il subsidy b id and d tax reforms. f • Investment in medium to longer tenor duration fixed income fund will offer a very attractive investment opportunity with a investment horizon of one year and above in light of current economic developments and expectations of yields peaking out from current levels. Some more PE compression cannot be ruled out in coming months, months but there is certain value emerging in Indian equities amidst turbulence. While the setting for decisive equity upturn may not be visible in very near term, current valuations do present a case for selective value picking. On near term basis, the sharp fall in INR looks overdone. With recent RBI action, near term INR stability looks likely. We believe INR is reflecting the deteriorating domestic macro situation (low growth, high fi fiscal l and d currentt accountt deficits). d fi it ) This Thi ugly l combination bi ti i to is t keep k INR under d pressure in i coming i months. From medium term perspective we believe that INR weakness may persist against most Emerging Markets (EM )peers which run current account surpluses. Confidential
Source : RMF Research
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Indian and Global Macroeconomic environment
• Global Economic Outlook • Domestic Outlook – Macro Economic – Fixed Income Outlook – Equity Market – Forex
Confidential
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Global Manufacturing Purchasing Managers Index (PMI) in December, 2011 indicates that Output is shifting from contraction to expansion • JP Morgan’s g global manufacturing g g PMI rose 1.1 points to 50.8 in December. Although the PMI remains depressed, the reading was the highest since June. • The increase was broad-based. The output index rose strongly, gaining 2.4 pts to 52.1. The new orders and employment indices posted moderate increases of 1.3 points and 1.0 points. • The global PMI’s increase also was fairly broad-based by region. PMIs rose in the USA, the Euro area, Japan, and China. • The December PMI suggests that the weakness in global manufacturing is starting to diminish. Global output was exceedingly weak in late 2011, declining in the two of the three months through November These declines were juxtaposed with solid gains in retail sales volume, creating the conditions for constructive inventory adjustments. Confidential
Source : JP Morgan, RMF Research
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In US, the economic g growth improves and unemployment y eases ISM reduces downside risk to mfg.
Unemployment eases
• The economic data from US was encouraging as industrial production, housing activity and consumer holiday y spending p g showed signs g of improvement. p • The November US ISM manufacturing survey bounced to their highest levels since April, with new orders rising 4.3pts to 56.7 and production rising 6.5pts to 56.6. • The unemployment rate plunged 0.4%-pt to 8.6% from 9.0% in November. • Th The minutes i t off the th FOMC meeting ti mentioned ti d about b t options ti f further for f th monetary t stimulus. ti l Th three The th potential options were -- besides the exercised option of Operation Twist – 1) expanding the balance sheet, 2) changing their communications, and 3) lowering the interest on reserve rate. Confidential
Source : JP Morgan, RMF Research
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Euro summit delivers a comprehensive package but leaves plenty of gaps • European Central Bank (ECB) cut its policy rate by 25 bps to 1% and offered a lot of support to Euro area banks but did not announce any large scale bond purchase program. • EU leaders committed to a new "fiscal compact" for the euro zone. Draft showed that the euro zone agreed to bring forward the launch of its permanent bailout fund, European Stability Mechanism (ESM), to July 2012. Both the temporary bailout fund, the EFSF (European Financial Stability Facility) and the ESM, could run in parallel for a year from mid-2012. The maximum lending capacity of the ESM (€500 bn) might not be diminished by the amount of money already spent by the EFSF, as was the initial plan. • The political changes should be supportive of the necessary reform process, but none of this will be sufficient to overcome the deep-rooted sovereign and financial crisis in the euro area. General Government Debt and Balances (% of GDP), 2010
Note: CAPB – Cyclically Adjusted Primary Balance Confidential
Source : Eurostat, IMF WEO , RMF Research
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Indian and Global Macroeconomic environment
• Global Economic Outlook • Domestic Outlook – Macro Economic – Fixed Income Outlook – Equity Market – Forex
Confidential
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October Index of Industrial Production ((IIP)) at -5.1% y yoy y was the lowest since April 2009 Trend in IIP (% YoY)
• Oct IIP growth moved to negative territory on high base, lower number of working days and slowing growth. The decline was broad-based. Consumer durables growth declined due to lagged impact of monetary tightening. Investments have not shown any sign of pick up. • The Industrial production in November will be move back to positive territory on higher number of working days, lower base. • High inflation, impact of monetary tightening and deteriorating gg global outlook will keep p IIP g growth muted. The lead indicators like Passenger car sales, credit growth, PMI data, port traffic, export growth are all pointing to slow down.
Confidential
Source : CMIE, RMF Research
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After averaging g g at 9.6% in FY11, Wholesale Price Index (WPI) inflation till now remains sticky above 9%.... Nov WPI headline inflation at 9.11%
Confidential
• WPI inflation for November moderated to 9.11% yoy from 9.73% in October driven down by Primary, particularly Food prices. But it came a tad higher than consensus expectation of 8.9% yoy as manufactured products inflation remained sticky. • Inflation remained in line with our expectation. It is the 12th month that inflation has remained above 9% in spite of 13 rate hikes by RBI. • November inflation was driven by Manufactured products. • Sequential rise in manufactured products and core inflation accelerated in November Depreciating rupee did not help. • Food prices are not expected to moderate much even after a good monsoon due d t structural to t t l reasons. But inflation has definitely peaked.
Source : CMIE, RMF Research
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….and expected p to moderate from December’11 WPI Inflation trend (% YoY)
Actual
Expected
• Inflation expected to average 6% to 6.5% in 1HFY13 vs. 9% average in FY12 under the base case scenarios. Scenario 1: Assuming no upward revision of provisional numbers
Confidential
• It may start moderating significantly only after December on high base, lagged impact of tightening, softening of commodity prices. • December WPI inflation may y move below 8% after almost two years. Moderating consumption demand will help keep inflation in check, but depreciating rupee might complicate things. things • WPI inflation may average around 8.8% in FY12 (FY11 Avg: 9.6%) with March end inflation clocking around 7% assuming stable food and commodity price. • RBI has also raised the FY12 Mar-end WPI expectation to 7% from 6%.
Scenario 2: Assuming Provisional numbers are revised up by small amount Source : CMIE, RMF Research
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FY12 will be a y year of consolidation Quarterly Real GDP Growth (%yoy)
2Q FY12 Real GDP grew at 6.9% yoy (7.7% in 1Q FY12), slowest growth in last nine quarters. GDP by activity showed that growth was driven by strong performance in Services that grew at 9.3% 9 3% yoy. yoy Industry slowed to 3.2%, driven down by disappointing mining and manufacturing growth. GDP by expenditure (demand side) raised concern as Private Consumption moderated and Fixed Capital Formation (that indicates investments)) contracted. But net exports p contributed positively to growth.
Going forward, Agriculture growth may slow to around 3% even with good monsoon on high base. Industry will remain under pressure on higher interest rate, high inflation, and tight liquidity From expenditure side, both consumption and investment may face lagged effect of the monetary tightening. Government consumption might not go down as much as expected before as Government fails to adhere to tthe e budgeted fiscal sca de deficit. c t Net et e exports po ts had ad co contributed t buted pos positively t e y to G GDP. This s may ay not ot hold o d ttrue ue for o FY12 as exports decelerate. GDP growth in FY12 to be around 7% yoy from 8.5% in FY11. Tight monetary policy may also keep GDP growth in FY13 subdued However, medium term prospects remain positive due to • Robust expansion in private services g consumption, p , both rural and urban • Strong • Acceleration in export demand • Strong investment pipeline with emphasis on infrastructure
Confidential
Source : CMIE, CSO, RMF Research
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RBI indicated an end of tightening cycle and reversal of cycle if risk to growth increases Liquidity tightened considerably in Dec
Trend in key policy rates
• In mid-quarter policy review on 16th December, the RBI kept Repo rates at 8.50%. Reverse Repo and MSF rates remained at 7.50% and 9.50% respectively. CRR remains at 6%. • RBI finally hit the pause button after hiking rates for 13 times since early 2010. • RBI was dovish as it mentioned about increasing downside risk to growth with inflation remaining on projected path. Most importantly, RBI explicitly mentioned that tightening cycle is over and RBI may reverse cycle (cut rate) if risk to growth increases. OMO may be done as and when required. • In the upcoming policy meet on 24th Jan, RBI is expected to downgrade its FY12 GDP forecast. RBI might indicate a reversal in policy cycle by announcing CRR cut to ease liquidity. RBI to continue with OMO.
Confidential
Source : RBI, RMF Research
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Government s 2H borrowing Government’s borrowing, Rs 2,600 2 600 bn, bn is 56% higher than budgeted Rs 1,671 bn – a slippage of Rs 930 bn. • The Gross and Net borrowing in H2 FY12 may y be 70% and 98% higher g than H2 FY11. • Till now RBI had purchased bonds worth Rs 412 bn. RBI is expected to continue with OMO in coming weeks. • Although the actual deficit can be as high as 5.7% to 5.8% of GDP, Government may try to show a lower deficit by deferring payment and using short term borrowings. • With the expected bad news of additional b borrowing i outt in i the th open, bond b d market k t may now react to other macro parameters. As inflation falls sharply, RBI can shift its focus to growth. Tight liquidity does make a case for CRR cut in near term followed by policy rate cut. • The Government announced the second supplementary grant with additional expenditure of Rs 570 bn (including Oil and Fertilizer subsidy of Rs 300 bn and Rs 138 bn). This takes the additional expenditure to Rs 659 bn including the first supplementary budget. • Government is trying to garner Rs 400 bn of disinvestment revenue through cross-selling of PSU shares and SUUTI monetization. There can be risk to increased borrowing if that does not go through. Confidential
Source : Economic Research, Dept of Fixed Income
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Statutory Liquidity Ratio (SLR)holdings (adjusted for Liquidity Adjustment Facility ) moved to 29.5% from 27.3% in last eight months as incremental credit slowed Trend in Credit growth and SLR ratio – 2011-2012 SLR Ratio (2011-2012)
Confidential
Source: RBI, RMF Research
Maximum SLR Ratio
30.3
Required SLR Ratio
24.0
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Indian and Global Macroeconomic environment
• Global Economic Outlook • Domestic Outlook – Macro Economic – Fixed Income Outlook – Equity Market – Forex
Confidential
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Fixed Income Markets - Outlook •
Liquidity situation to ease from current level on expected RBI moves; •
Currently around negative INR 1000-1200 billion.
•
Continuous OMO buybacks, expectations of CRR cut and slower credit growth to support liquidity in near future
•
Confidential
RBI done with rate hike cycle might reverse the trend if growth impacts further •
Weak economic data on both global and local front
•
Stabilizing commodity prices globally
•
Expect inflation to start moderating from December,11 reading onwards
Source: RBI, Bloomberg & RMF Research
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Fixed Income Markets - Outlook •
•
•
Inflation to moderate December 2011 onwards •
Impact of RBI’s aggressive rate hikes
•
Base effect impact
•
Stabilizing commodity prices globally
•
Moderation in credit and economic growth
10 year G-sec benchmark yield is expected to trend lower on account of; •
Impact of continuous supply nullified by OMO buy-backs
•
Consolidating growth and inflation numbers to support G-secs
•
Slowing credit growth and current high yields to attract investors
•
Additional borrowing announced to be supported by RBI via OMO buybacks
We expect the spread between G-secs and similar maturity AAA PSU corporate bond to narrow going forward on demand supply dynamics
Confidential
Source: RMF Research
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Broad Investment Strategies g •
Announcement of OMO and series of weak economic data to support yields across the curve curve.
•
Duration plays to be more prominent as inflation peaks out and on RBI initiates measures to support liquidity and growth.
•
Duration to be achieved through active G-secs G secs across the curve and PSU corporate bonds at attractive spreads.
•
The shorter end of the yield curve looks most compelling due to high absolute levels, a flat to inverted yield curve and expectations of yields peaking out.
•
Investments in the 1 to 3 year corporate bond space can pay off handsomely once the curve starts steepening.
•
To sum up, up investment in medium to longer tenor duration to offer a very attractive investment opportunity with a investment horizon of one year and above in light of current economic developments and expectations of yields peaking out from current levels.
Confidential
Source: RMF Research
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Recommendations: •
•
Confidential
Investment in duration funds like Reliance Dynamic Bond Fund, Reliance Income Fund and Reliance Gilt Securities schemes is suitable for investors •
With a investment horizon of 1 year and beyond
•
With some appetite for risk / Volatility
•
Currentt high C hi h bond b d yield i ld offers ff a very good d opportunity t it off capital it l appreciation i ti as yields starts to fall
Investors comfortable with lesser appetite for risk (volatility of returns) can consider Reliance Short Term Fund, Reliance Regular Savings Fund Fund- Debt and medium to long term FMP’s. •
High gross yields
•
Expectations of RBI measures to ease liquidity to lower yields going forward
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Moderate duration will lead to low volatility and stable returns over a period of time.
•
Benefit B fit due d t rollll down to d i Reliance in R li Sh t Term Short T F d and Fund d RRSF-Debt RRSF D bt products. Source: RMF Research
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Indian and Global Macroeconomic environment
• Global Economic Outlook • Domestic Outlook – Macro Economic – Fixed Income Outlook – Equity Market – Forex
Confidential
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Indian Equities: Value emerging among turbulence
India’s valuations have materially declined. Indian market 12 months forward PE is at 12.3 times. Indian market’s last 8 years’ average forward PE is at 15.4x (multiple). Its correctly trading at near 20% discount to its 8 years’ average multiples. C Consensus has h revised i d down d F12 Sensex S earnings i growth th by b 7.5 7 5 ppts t since i th start the t t off 2011. 2011 Similarly, Si il l earnings revision breadth remained negative throughout the year. While some more PE compression cannot be ruled out in coming months, there is certain value emerging in Indian equities amidst turbulence. While the setting for decisive equity upturn may not be visible in very near term, term current valuations do present a case for selective value picking. With significant macro effect at work, the time looks ripe for bottom up investment approach. Confidential
Source: RMF Research
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Indian and Global Macroeconomic environment
• Global Economic Outlook • Domestic Outlook – Macro Economic – Fixed Income Outlook – Equity Market – Forex
Confidential
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INR: Significant depreciation but not yet undervalued
Indicators like net Forex assets of banking system & net FII flows (equity + debt) show that recent INR depreciation cannot be ascribed to any material Forex outflows. On near term basis, the sharp fall in INR looks overdone. With recent RBI action, near term INR stability looks likely. However, on trade weighted basis, INR does not look undervalued (on REER basis, level well below 100 indicates undervalued). Similarly, global deleveraging in not supportive of INR in coming months.
Confidential
Source: RMF Research
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INR: Despite sharp depreciation INR still have to face headwinds
Consensus believes recent INR depreciation is temporary and may reverse by FY13. FY13 We highlight that INR movement is best explained by overall net capital inflows in India, which are predicated on India superior and stable growth profile. We believe INR is reflecting the deteriorating domestic macro situation. Further., there is a high correlation p explain p INR underperformance. p with twin deficits and that also help While growth is expected to moderate in FY13. twin deficits are expected to rise to significantly elevated levels in coming quarters. This ugly combination is to keep INR under pressure in coming months. Confidential
Source: RMF Research
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INR: Broad based decline against all and sundry
CNY has appreciated by 63% against INR since Dec 2007
INR has been the worst performing currency in entire EM space. Current account surplus currencies strengthening against INR (current account deficit currency) From medium term perspective we believe that INR weakness may persist against most EM peers which run current account surpluses. However, given the growth and productivity differential between India and US, INR may stabilize and start to appreciate against US$ (but only) after few quarters. Confidential
Source: RMF Research
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Disclaimers The views expressed herein constitute only the opinions and do not constitute any guidelines or recommendation on any course of action to be followed by the reader. This information is meant for general reading purposes only and is not meant to serve as a professional guide for the readers. Certain factual and statistical (both historical and projected) industry and market data and other information was obtained by RCAM from independent, third-party sources that it deems to be reliable, some of which have been cited above. However, RCAM has not independently verified any of such data or other information, or the reasonableness of the assumptions upon which such data and other information was based, and there can be no assurance as to the accuracy of such data and other information. Further, many of the statements and assertions contained in these materials reflect the belief of RCAM, RCAM which belief may be based in whole or in part on such data and other information. information The Sponsor, the Investment Manager, the Trustee or any of their respective directors, employees, affiliates or representatives do not assume any responsibility for, or warrant the accuracy, completeness, adequacy and reliability of such information. Whilst no action has been solicited based upon the information provided herein, due care has been taken to ensure that the facts are accurate and opinions p given are fair and reasonable. This information is not intended to be an offer or solicitation for the g purchase or sale of any financial product or instrument. Recipients of this information should rely on information/data arising out of their own investigations. Readers are advised to seek independent professional advice, verify the contents and arrive at an informed investment decision before making any investments. None of the Sponsor, the Investment Manager, the Trustee, their respective directors, employees, affiliates or representatives shall be liable for any direct, indirect, special, incidental, consequential, punitive or exemplary damages, including lost profits arising in any way from the information contained in this material. The Sponsor, the Investment Manager, the Trustee, any of their respective directors, employees including the fund managers, affiliates, representatives including persons involved in the preparation or issuance of this material may from time to time, have long or short positions in, in and buy or sell the securities thereof, thereof of company(ies) / specific economic sectors mentioned herein. herein
Confidential
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Statutory Details & Risk factors Statutory Details: Reliance Mutual Fund has been constituted as a trust in accordance with the provisions of the Indian Trusts Act, 1882. Sponsor: Reliance Capital Limited. Trustee: Reliance Capital Trustee Co. Limited. Investment Manager: Reliance Capital Asset Management Limited (Registered Office of Trustee & Investment Manager: “'H' Block, 1st Floor, Dhirubhai Ambani Knowledge City, Koparkhairne, Navi Mumbai - 400 710, Maharashtra). The Sponsor, the Trustee and the Investment Manager are incorporated under the Companies Act 1956. 1956 The Sponsor is not responsible or liable for any loss resulting from the operation of the Scheme beyond their initial contribution of ` 1 lakh towards the setting up of the Mutual Fund and such other accretions and additions to the corpus.Scheme Classification and Investment Objective: Reliance Dynamic Bond Fund (An Open ended Income Scheme): The primary investment objective of the scheme is to generate optimal returns consistent with moderate levels of risk. This income may be complemented by capital appreciation of the portfolio. Accordingly, investments shall predominantly be made in Debt Instruments. Reliance Income Fund (An Open ended Income Scheme): The primary investment objective of the scheme is to generate optimal returns consistent with moderate level of risk This income may be complemented by capital appreciation of the portfolio. risk. portfolio Accordingly, Accordingly investments shall predominantly be made in Debt & Money Market Instruments. Reliance Short Term Fund (An Open ended Income Scheme): The primary investment objective of the scheme is to generate stable returns for investors with a short term investment horizon by investing in fixed income securities of a short term maturity. Reliance Regular Savings Fund (An open ended Scheme) Debt Option: The primary investment objective of this Option is to generate optimal returns consistent with moderate level of risk. This income may be complemented by capital appreciation of the portfolio. Accordingly investments shall predominantly be made in Debt & Money Market Instruments. Reliance Gilt Securities Fund (An O Open ended d d Govt. G t Securities S iti Scheme): S h ) The Th primary i i investment t t objective bj ti off the th scheme h i to is t generate t optimal ti l credit dit risk-free i kf returns t b by investing in a portfolio of securities issued and guaranteed by the Central Government and State Government. Risk Factors: Mutual Funds and securities investments are subject to market risks, and there is no assurance or guarantee that the objectives of the Scheme will be achieved. As with any investment in securities, the NAV of the Units issued under the Scheme can go up or down depending on the factors and forces affecting the securities market. The names of abovementioned Scheme(s) y the names of the Schemes and do not in any y manner indicate either the q quality y of the respective p Schemes or their future are only prospects or returns. Past performance of the Sponsor/AMC/Mutual Fund is not indicative of the future performance of the Scheme. The Mutual Fund is not assuring that it will make periodical dividend distributions, though it has every intention of doing so. All dividend distributions are subject to the availability of distributable surplus in the Scheme. The NAV of the Scheme may be affected, interalia, by changes in the market conditions, interest rates, trading volumes, settlement periods and transfer procedures. For detailed risk factors, please refer to the respective Scheme Information Document & Key Information Memorandum, which is available at all the DISC, Distributors and www.reliancemutual.com. Investors can also call at our call centre 1800 1800-300-11111 300 11111 (toll free) for more details. Please read the respective Scheme Information Document and Statement of Additional Information carefully before investing.
Confidential
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Thank You