Raging raw material prices are likely to squeeze demand and affect earnings, but they may cool in 2022. A Balasubramanian, CEO and MD of Aditya Birla Sunlife Mutual Fund, in an interview with Malini Bhupta, says these price increases are not sustainable and some adjustment will happen as companies cannot pass on these increases to the end consumer.
Last two years have been good for markets, will 2022 be disappointing for investors?
Normally markets go through different cycles of 12 to 36 months – both bull and bear cycles. Historically whenever the market has given spectacular returns, returns in the subsequent period are moderate. My assumption is that post the pandemic, the market gave substantial returns unexpectedly as hope was rising. Keeping that in mind, the market will go through a consolidation phase. The current flat market is an adjusting phase. Ultimately, the market should not give more than normal GDP plus risk premium of 4-5%. Last 25 years, if you analyse the market, they have gone through four different cycles. The first phase is where everything is dark and this period lasts 4 – 6 months like Covid. Then comes the hope phase, which pushes up the market and it lasts anywhere between 18-24 months. This is followed by the growth phase, when earnings go up and P/E normalises. During this phase markets may not go up significantly as the multiple would have expanded earlier. The final phase is that of optimism when both earnings and multiples expand simultaneously. We are still between the hope and growth phases. The real optimism phase will take time when economic growth is on autopilot.
How are you viewing the current scenario where commodity prices are rising, the Federal Reserve is expected to taper its balance-sheet and geopolitical risks remain?
As far as commodity prices go, it is not that demand has gone up. Supply has been affected in most sectors today, which resulted in price increases. Supply disruptions have impacted prices. For instance, China has an embargo in dealing with Australia and Russian supplies have been disrupted. These price increases are not sustainable and some adjustment will happen as companies cannot pass on these increases to the end customer beyond a point. The last two years China has tightened regulatory framework for tech and banking industries. But growth has to return, as supply-chains normalise. Higher prices are hurting certain sectors like automobile and those that use derivatives of petroleum. So far companies are using inventory from the past, the challenge will come in the future if prices remain high. If prices are increased then it will impact demand so it will impact production. Therefore, these things are not good for the economy. Once we see reduction in noise around Russia-Ukraine war and China normalises, then we will see some stabilisation. The middle path will happen in 2022 itself.
Do you see earnings impact?
Earnings will be very good during the March quarter. There is no impact as companies have lowered debt, balance sheets have improved and cost of capital has declined. Companies which have seen raw material prices go up will see some impact in the coming quarter. What everyone is hoping for is that economy will return to normal and so consumer spending will come back. If that happens, then the ability to pay more will help price increases.
How does India appear from a macro point of view given the challenges that face the economy? Will RBI hike rates?
Of course, today inflation is high but it is not because of demand but supply constraints. The RBI knows about it so it has to decide how long it can wait to increase rates. Growth is expected to return big time even though Ukraine has put a question mark on how fast it is coming back. Having said this, global inflation remains high and FOMC has started hiking rates now, RBI has to decide on whether it should wait or start increasing rates in a calibrated fashion. Going by historical approach, they will marginally increase rates in April or the next policy. The market will also prefer a calibrated approach.
How is India poised from a growth point of view?
India is poised very well from a growth point of view. Reason for this is political stability and continued focus on reforms. Third, the tax system is aimed at ensuring higher compliance. With improvement in tax filing system, compliance is rising. Government spending also remains high despite challenges and it will help growth. The domestic economy is on a very strong wicket compared to the rest of the world. The performance linked incentive system to bring new manufacturing sectors to India is making progress. Apple has exported a significant number of iPhones from India. China now makes global investors uncomfortable so India will benefit from that. Last but not the least, the federal system is also driving growth as every state is looking at attracting investments on their own. This will drive growth for India over the next 10 years.
Do you expect tapering of balance-sheets by central banks to see continued outflows from India?
I expect money to come back to India. If you look at it, domestic investors were buying when FPIs were selling as dollar strengthened. Looking at macro fundamentals, I would assume that flows will reverse in 2022.
Retail investors have supported markets, do you expect this trend to continue?
There is a fundamental shift in India towards capital markets. And this shift happened immediately after demonetisation since it made people think of alternate ways of looking at investments. If you see, the biggest flows to capital markets came over FY16-17 and FY18-19. During the pandemic, thanks to the low interest rate regime the industry saw higher flows. This has created a positive experience for investors as they have made money. If you look at post pandemic, redemptions were low and flows are now back. It will only keep going up.
Fixed income went through a churn and credit funds have suffered the most. How is the industry dealing with it as investors get cold feet?
Fixed income is a space where there is merit for long-term investments. Fixed income has been affected in the last one year, due to RBI’s action and the credit crisis. Risk appetite also came down as nobody wanted to invest in anything below AAA. This is also a cycle. In time, investors will return to fixed income so gilt funds are doing well as yields are going up. The 10-year bond is touching 6.85% almost. With a likely interest rate hike we can see pressure on yields. Once this happens people start looking at earnings yield versus the bond yields. Today earnings yield is 5.5% and bond yields are at 6-7%. Assuming this gap expands further with bond yields rising further so opportunity will emerge for fixed income.
Has the credit defaults impacted the corporate bond market?
There is no long-term damage. Every few years there are cycles and none of the credit crisis impacted investors in the long-term. If a fund manager manages portfolio from a risk point of view then liquidity comes. Post IL&FS broadly the system has improved. Credit risk also reduced during the pandemic, as there were not many borrowers. In time credit upgrades are likely in time. What will help bond markets are initiatives like the repo clearing corporation with all industry players putting money into it for purchase of bonds below AAA. Once RBI approval comes, it can provide liquidity to the secondary market.
New age technology companies have gotten into some trouble. Do you see things getting better with Sebi’s proposed norms on better valuation disclosures?
India is now producing a lot more entrepreneurs and are walking the same path as China. Start-ups will remain and interest in investing in these companies will also remain high. Even though start-ups go for listing they still remain in the investment phase and so profit is not there. Those who are not relevant to customers will die. Unlike 1999 not many companies have died. We have been selectively participating in these companies.
Would you launch a crypto or Bitcoin futures ETF?
Crypto is difficult to assess. Investors are investing in it and government has put a tax liability on it. Digital currency is coming globally and what role monetary policy will play in this market. Crypto is currently a vehicle for speculative activity. We will look at a feeder fund if a segment of investors seek it but for the time being we will stay away from it.