Global volatility increased and equities witnessed a sharp sell-off with the rapid spread of the Coronavirus (COVID-19) beyond China and its anticipated impact on global economic growth. US equity markets which had a record year in 2019 and were holding up well, had a significant correction from its peak. Indian equity markets also were not insulated from the global market correction and the Nifty has fallen 8%. Amidst increased uncertainty, global investors are seeking refuge in safe haven assets like US Treasuries (10-Yr yield fell below 1% for first time ever) and Gold (up 5% over the past month), Brent crude prices have fallen more than 20%. The global growth expectations are being scaled down significantly due to the impact of the virus.
COVID-19 is turning out to be the ‘Black Swan’ event for 2020 with the World Health Organization (WHO) raising its assessment from high to very high, which is its most serious assessment. The spread of the virus could not only impact consumer demand but also disrupt supply chains in electronics, auto, pharmaceuticals, chemicals, etc. Governments across the world are working overtime on containment of the virus spread and belief is that the onset of summer should help reduce the impact. Early to comment, but if the virus is to be contained by 2Q CY20 and global economic recovery is expected to be delayed to 2H CY20 and to that extent there is hope for recovery in 2020, all is not lost.
Central banks led by the US Fed are taking coordinated action and are aggressively reducing rates to support the global economy. Other global central banks are following suit. The Chinese government has also provided a massive monetary and fiscal stimulus to shore up the Chinese economy. The RBI is also expected to maintain supportive monetary policy. Easy global liquidity, accommodative monetary policy, lower commodity prices and the urgency now globally to shift manufacturing out of China to India, etc. should all be supportive for Indian Equities in the medium term.
It should be noted that global markets have bounced back quickly after previous such crises. A case in point is that during the SARS crisis in 2003, the S&P500 declined by 5.5% in Q1’2003 but bounced back by 14% in Apr-Jul’03. Similarly, the Nifty fell by ~10% in Jan-Mar’03 but rebounded by 21.5% in Apr-Jul’03. Sectors such as IT, Metals, and Consumer Durables which underperformed during the crisis period not only covered lost ground but outshone other sectors in the recovery period. Hence, investors are advised to see this has a short-term opportunity to add to their equity investments and not panic at the recent sell-off.
India’s 3Q FY20 GDP growth came in at 4.7% yoy which was in-line with expectations. While S.E. Asian countries have started seeing an impact on manufacturing due to COVID-19, the impact on India has been relatively lower so far with the latest manufacturing Purchasing Managers Index (PMI) for Feb coming in at a strong 54.5. System liquidity is also in surplus and credit spreads are falling which should lead to high credit growth and gradual economic growth recovery, after incorporating some depressive impact from COVID-19. The Q3 FY20 results season got over and Nifty Q3 results were in-line with expectations. Earnings for more than half of the Nifty 50 companies were above or in-line vs. estimates, mainly in the Auto, Private Banks & NBFCs, FMCG, and IT sectors. While revenue growth has been muted, Adjusted PAT for Nifty companies has grown by 14%, aided by the Corporate tax cut.
View on the Market
The supply chain disruption due to COVID-19 could be felt in sectors such as Consumer Durables, Electronics, Pharma, and Auto which have a high import dependency on China as well as in other sectors such as Gems & Jewellery, and Petrochemicals which have a high export dependency on China. However, there are some positive aspects too with sectors such as Textiles, Leather goods, and Ceramics expected to benefit due to temporary decline in exports from China wherein Indian companies can be the alternate suppliers. Reduction in cheap Chinese imports should also benefit India’s plastics industry. Global companies are looking to de-risk their supply chains and actively looking at alternatives to China. India has a golden window of opportunity to increase its share in some key sectors.
We continue to believe that corporate earnings growth is likely to pick up in FY21, in line with gradual improvement in economy, while there is a risk of downgrades due to impact of COVID-19 in the short term. In terms of valuations, with the sharp fall in the markets, valuations are looking much more reasonable now. The spread between the earnings yield and bond yield now indicates that equities are now in an attractive zone. Mid-and-small caps still have room to catch up with large caps stock valuations.
With a gradual recovery in growth, both globally as well as in India, expected to be delayed but not de-railed by COVID-19, we remain constructive on the Indian Equity market. The recent correction presents a good opportunity for long-term investors to increase equity exposure while maintaining a balanced asset allocation.
Source: Bloomberg, ABSLAMC Research
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