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Blame It On Corona

As markets across the world falter, India's expensive valuation and faltering growth find a convenient scapegoat

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Published 6 months ago on Mar 13, 2020 Read
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“In 2020, Wile E. Coyote is going to go off the cliff.”

So said former US Federal Reserve chairman Ben Bernanke in June 2018 warning that President Donald Trump’s unfunded $1.5 trillion tax cut and $300 billion in new spending could pose a serious problem for the future. For the uninitiated, the unlucky cartoon character from Looney Tunes, Wile E. Coyote, always fails to catch the Road Runner, a fast-running ground bird, and ends up going over the hill. While Bernanke’s prediction was for the economy in 2020, the “Wile E. Coyote” moment has manifested not because of an economic crisis but Coronavirus, which has been declared a global pandemic by the World Health Organization.

Ambareesh Baliga, Independent market analystThe outbreak of the respiratory disease (COVID-19), which began in China, has now infected 130,000 people globally, with fatalities surging past 4,000. As fears worsen and the outbreak spreads to 114 countries, global equities have been tumbling — with the S&P 500 falling 18% in just four days of trading. The trigger came after Trump banned all travel from EU to the US, stoking fears of a recession and forcing investors to dump risky assets (read equities). The total number of people who have contracted the virus in the US till now stands at 1,700. “Unlike what was done by a military regime in China, which shut down an entire province, the US has to either develop a medical dose to control this virus or the epidemic will spread,” feels Anoop Bhaskar, head-equities, IDFC Mutual Fund. With most nations across the globe curtailing travel visas to foreigners, there is a growing fear that economic impact will be significantly higher than estimates. “With the kind of control measures, it seems even if the virus issue is contained within the next 10-15 days, the economic after-effect will be much longer. That is the fear across the globe now,” mentions market analyst Ambareesh Baliga.

Back home, the Sensex saw its biggest one-day point fall in recent years as it plummeted 2,919 points to 32,778, while the Nifty tanked 8% below the psychological level of 10,000 to end at 9,633 on March 12. The mayhem continued the next day with the market opening 3,000 points lower, prompting trading to be halted for the first time in 12 years. A sharp pullback after the market reopened saw the Sensex close 1,325 points (4%) higher at 34,103 and the Nifty closing above 10,000 at 10,023.65, up 4.5% (433 points). In doing so, the Sensex oscillated 5,000 points from its day’s low of 29,388. Similarly, the Nifty gained 5% to reclaim 10,000, after hitting day's low of 8,555. Between March 2 and March 12, foreign investors dumped equities worth $3.12 billion in eight trading sessions, once again exposing the lack of depth in Indian markets as DIIs bought just $1.8 billion worth of equities in five sessions. The India VIX, which surged over 30% to 44, is showing growing panic among market participants.

The meltdown has prompted postponement of many IPOs. In fact, the buzz on the Street is that just like Reliance Power’s listing marked the meltdown of 2008, the listing of SBI Cards, the country’s fifth largest public offering, could also portend a similar fate. In the unofficial grey market for unlisted stocks, the shares were trading in the Rs.755-775 range against the issue price of Rs.750-755. The eventual listing could see a selling frenzy as most HNIs have invested in the IPO, which was subscribed 26x, through margin funding, expecting a listing premium of 30-50%.

The rupee has crashed to a near record low against the dollar at 74.44, closer to its record low of 74.48 seen in October 2018. While the RBI is unlikely to intervene in the forex market, it could cut the repo rate and announce additional liquidity before its annual meeting next month. The Fed, too, has tried to assuage investor concerns by pledging to inject $1.5 trillion into the financial system to prevent a financial contagion. However, despite the announcement, the DJIA lost 10%, knocking off the entire gain since Trump assumed office.

Vinay Paharia, CIO, Union Mutual FundHowever, some analysts say while volatility will continue, it’s a good time to seek out opportunities. “You cannot predict when this swing will stop. But with reasonable judgement and research, you can see that markets are fairly undervalued at this point of time,” says Vinay Paharia, CIO, Union Mutual Fund. The fund house has increased its exposure to equities in its Balance Advantage Fund. “We have increased our equity allocation over the past few days as valuations have turned favourable,” reveals Paharia.

Though the correction is across the board, fund managers believe large-caps are safe havens. “The safest bet seems to be to buy companies with 50x PE, because they have solid business models and in times of uncertainty, these cash generating companies with less impact of technology or new business models have been rewarded. Fifteen years ago, these companies would not have been viewed so positively,” feels Bhaskar. While Bhaskar feels large-caps are a safe bet, Baliga adds a note of caution. “One of the toughest questions in investing is ‘what is a good company’. In 2006-08, even BHEL was a good company. But now it trades at a 17-year low. Companies that have done well in the past two years and continue to grow can be seen as safe havens,” says Baliga.

Anoop Bhaskar, Head-equities, IDFC MFWhile market sentiment remains weak, economists believe macro indicators are working in favour of India. The over 40% fall in crude oil to $33, is expected to narrow the fiscal deficit at a time when the government is struggling to increase tax collections. The country imports over 80% of its crude requirement, which cost $87 billion in FY19. While aviation and hospitality sectors have been impacted by the travel ban, the fall in crude price might cushion some of the impact. “Travel and aviation would see the most severe impact because of the ban, but remember all this will not last long,” points out Paharia. The joker in the pack though is India’s economic growth.

If FY21 turns out to be worse than what the market is currently discounting, then all bets are off. While the Nifty trades at 15x one-year forward earnings estimates, it’s not a screaming buy given concerns over economic growth. Optically, 15x may seem cheap compared to the 18x the Nifty has traded over the decade, fueled by abundant liquidity, high multiples and the prospect of growth recovery. At the current valuation, most brokerages have penciled in 25% growth in Nifty EPS for FY20 and 18% for FY21. But given that earnings growth would be revised downwards, it’s quite likely that the market may retest the low that it hit in the current sell-off.

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