On Monday, the Economic Survey flagged valuations in the Indian equities market, and the need to guard against sharp corrections in elevated stock prices. This has been a worry for some time now — the executive vice-chairman and managing director of Kotak Mahindra Bank, Uday Kotak, recently cautioned against the trend of funds flowing to just a few stocks, and to firms with corporate governance issues.
What Kotak and Chief Economic Advisor Arvind Subramanian have flagged is the surge in Indian stock markets over the past year, even as growth has declined — a sharply different scenario from the United States and Europe, which have seen strong economic rebounds — and the risk of outflows in case of a sharp correction. The current surge in stock prices does not warrant sanguineness about its sustainability, says the Economic Survey.
The broad view in the West, as reflected in discussions at the World Economic Forum (WEF) in Davos last week, is bullish, at least for the first half of 2018. Foreign portfolio flows — which have crossed $ 30 billion over the past year — could continue to be robust over the next several months, given the strong global economic recovery, and the perception that reforms such as the Goods and Services Tax will start paying off. The identified headwinds that could spoil the party? Interest and inflation risks, both locally and globally.
The optimistic outlook and confidence of global equity investors is framed against the backdrop of rising markets, led by the rally in US stocks on the back of an expected growth of 3%, and a rebound in Europe — France has lifted its growth forecast to almost 2%, as Germany continues to power on. The assumption also is that global central banks may not be keen to raise interest rates quickly in the near term — with the consequence that the surge in stocks could sustain for a while.
The sentiment was best captured during a WEF discussion on global markets in a fractured world by Stephen A Schwarzman, co-founder and CEO of the storied private equity firm Blackstone, one of the big daddies of global investing: “With wonderful food and drinks being served, no one wants to miss the party. You are making money, and it is not real hard work, and no one wants to stop the party.”
Both Brian T Moynihan, CEO of the Bank of America Corporation, America’s top bank, and Frank Appel, the CEO of Deutsche Post, the world’s largest courier service company, said they were extremely positive on India. With the IMF having projected India as the world’s fastest growing economy at almost 7.5% in 2018, and with key structural changes under way, more money would flow in, they said. Appel said many like him had waited for a decade for an indirect tax reform like the GST, and the benefits would now follow.
The assessment of many overseas investors of India’s growth prospects are, in fact, far more positive than those of their Indian counterparts. This bullishness may offer comfort to Indian policymakers who must now address the serious challenge of rising inflation and oil prices, both of which have been low for a good part of the Narendra Modi government’s tenure, but which now threaten to jeopardise its fiscal consolidation efforts. The positive news is that, if flows continue to be as buoyant as some of these experts reckon, it should help to finance the country’s current account deficit (the excess of imports over exports).
Appel and Moynihan, as well as Credit Suisse CEO Tidjane Thiam and Nasdaq CEO Adena Friedman, pointed to the exceptionally favourable current global economic context — a growing Europe, with Emmanuel Macron’s France pushing labour reforms; record low levels of unemployment in the US; the expected positive impact of the deep corporate tax cut by the Trump administration; and with global trade now growing faster than global GDP after a gap of a couple of years — to explain the confidence that has seen markets shrug off worries such as the threat of a US government shutdown this month.
Kotak, a Davos regular who met up with global pension fund managers and other investors at the WEF, said he expected foreign funds flow to be buoyant over the next six months. “The party is not yet over. But beyond six months, there will be interest rate and inflation worries.” He was alluding to rising bond yields, both in India and the US, that could potentially reverse capital flows as the US and other markets appear more attractive to investors once interest rates rise. Of the over $ 30 billion portfolio flows that India attracted in 2017, $ 23 billion was investment in Indian debt.
One of the worries, Kotak said, was “short-termism”, or a near-term approach, while Schwarzman warned against assuming there were no risks — which could spell the end of the current rally. Geopolitical risks include conflict in the Korean peninsula, besides inflation and trade risks, according to the Blackstone CEO.
What needs to be done to keep the story going?
Productivity gains will be key, Appel said. These could be brought about by investing more in education, infrastructure, keeping budgets under control, and through more open trade in many geographies. He cited gains made by Europe and Singapore, the latter being a classic case of a recipe for success in a country that has hardly any resources.