Vijay Kumar Gaba

 A recent Reuter’s article (see here) drew attention towards some ominous signs emanating from the bond pricing of emerging markets that are more vulnerable to default on their sovereign obligations. Noting the signals like weakening currencies, bond spread widening beyond 1000bps, and dwindling Fx reserves, it concludes that a record number of developing economies might be “in trouble” now.

More than US$400bn worth of sovereign debt could be facing default. While the countries like Russia, Sri Lanka, Lebanon, Zambia etc. have already defaulted on their obligation, the usual suspects like Argentina and Pakistan etc. appear on the precipice of a default. The serial defaulter Argentina (US$150bn); Ecuador 9US$40bn); and Egypt (US$45bn) may actually default much sooner. If the war drags on for a couple of more months, Ukraine may also default on US$20bn debt payments.

Of course, the sovereign defaults are not new and the US$400bn default might not look massive in the context of trillions of dollars of new money created in the past one decade. Nonetheless, so many countries defaulting in a short span of time could have serious consequences for the global financial system. For one, it could trigger a contagion if some large global institution like Lehman Brothers collapses under the weight of such default. The worst however would be if the ‘default’ loses the moral stigma attached to it, and many profligate nations find it convenient to default and start afresh.

It is pertinent to note that the Bank of Japan (BoJ) owns more than 50% of the debt taken by the Government of Japan. This effectively means that Japan has borrowed about USD one trillion from the JPY printing press in the three years 2020-2022. Considering the deteriorating demographics and anaemic growth over the past three decades, it is obvious that Japan is ‘riding a tiger’. Many developed countries like Italy and Greece are also trapped in a vicious low growth high debt cycle. Obviously, getting out of this trap is not feasible in the normal course of business.

The most relevant question at this point in time therefore ought to be “how the global economy gets out of this extortionate high debt-low growth trap?”

Historically, the following methods have been used by the governments to break out of the low growth high debt trap:

1.    Currency debasement by stimulating high inflation for long or devaluing the currency.

2.    Financial suppression by keeping the real rates negative for long.

3.    Fiscal tightening by increasing taxes disproportionately and/or reducing public spending.

4.    Incremental improvement by gradually tightening the monetary policy.

5.    Defaulting on debt obligation and negotiating waivers with the lenders.

 One good thing about the Monsoon season in North India is that this is the season for new crops of fruits from hill states. We get fresh and juicy pears, plums, apples, cherries, peaches etc.; besides, juicier varieties of mangoes like Chausa and Langda. A visit to the fruit market in Gurgaon yesterday however left a little sour taste in my mouth. None of the seasonal fruit was selling at less than Rs100kg. Apples are more than Rs200/kg. Even mangoes are selling at a rate of Rs120-250/kg.

The vendors selling from carts and smaller shops are unhappy as sales are down notably due to higher prices; and a larger than usual quantity of their merchandise is going to waste due to rotting. The consumer is obviously unhappy as even the seasonal fruits are becoming unaffordable for many of them. The importers of fruits from South East Asia and Americas are also not particularly happy as the demand for expensive and exotic fruits is diminishing consistently due to higher prices. I shall make a trip sometime in September to find out how the farmers are feeling about it.

The food and energy inflation has often remained elevated in India for the past many years due to one reason or the other. Erratic weather (poor crop), depreciating currency (imported inflation), higher support prices, and geopolitics (higher energy prices) etc. The core inflation though remained mostly tamed, except for the sharp rise in input prices post Covid.

There is no evidence to suggest any direct correlation between wage inflation, especially farm wages and non-government urban worker wages. Nonetheless, the indicators like consistent decline in household savings rate; rise in demand for currency, rise in household debt, especially credit card outstanding, could be seen as pointers to indicate that wage hikes might not have matched the household inflation.

Notwithstanding the stagflation like conditions and low visibility of any material improvement in near future, we do not see common man protesting on streets in India. The protest, if any, are feeble and rhetorical, mostly by the politicians from opposition parties. The primary reason for this broader acceptance of high inflation, in my view, is the persistence of inflation for decades, with brief periods of relief in between.

Being an economy materially reliant on agriculture (weather) and imports (edible oil, energy, gold, defence equipment, technology) the population and policymakers both have significantly higher tolerance for food and imported inflation. The phrases like “Beyond control” and “Act of God” are often used by all to accept high inflation. The consumers, investors, money managers and policy makers usually do not consider an episode of high inflation as something that may require any structural change in their respective approaches.

However, this has not been the case for many developed economies like the USA, which are witnessing high inflation after a few decades. A large proportion of the current generation of consumers, investors, money managers and policy makers have not seen any episode of high inflation (and consequent higher rates). Their tolerance to inflation is obviously very low and thus their responses could be very strong. A casual chat with some friends in the USA and UK tells me how the common people in these countries are already feeling “devastated”, even after enhanced cash support from the government. The policy makers, investors and money managers also appear panicked and reacting in haste.

Being an investor in Indian assets only, I see no reason for panic. In fact, I find many reasons to feel optimistic about the future of Indian assets and markets. In the past few years many steps have been taken to contain the imported inflation. These steps shall definitely yield positive results in the next 4-5 years. For example—

·         Focus on renewables, biofuels, local electronic, defence and chemical manufacturing, multiple FTAs etc. should either reduce reliance on imports or at least protect from volatility in global prices. The impact of increased self-reliance (import substitution) could reflect in improved trade balance taking pressure off from the Indian currency.

·         Mission scale efforts to improve production and processing of oil seeds, pulses, fruits & vegetables (horticulture) and marine products etc. have already started to show some early results. The situation could improve materially in the next 4-5years.

·         The current war between Russia and Ukraine has emphasized and reinforced the idea of having a more diversified vendor base for the global businesses. We shall definitely see more bilateral agreements (FTAs etc.) between India and other countries, especially the developed countries that relied overwhelmingly on China and Easter Europe for sourcing their manufactured goods.

·         Full operationalization of Dedicated Freight Corridors, development of multiple expressways along with industrial corridors shall improve the logistic infrastructure brining efficiency in supply chain and optimization of cost of productivity.

·         A leap forward has been taken towards INR convertibility by allowing Indian entrepreneurs to settle their cross border trades in INR. This shall in due course ease pressure on the current account and improve the terms of trade for Indian businesses.

In my view, the current phase of volatility and uncertainty in macro factors like inflation and trade deficit etc. is transient. We have successfully travelled from 12-15% inflation range to 4-8% inflation range in the past 3 decades. In the next decade inflation may stabilize in 3-4% range with materially better trade balance, and a stable INR and mostly neutral rates.

The Federation of Indian Chambers of Commerce & Industry (FICCI) in a recently released knowledge paper – “Metaverse and Emerging Opportunities” – highlighted some interesting aspects of this massive opportunity that has the potential to transform, inter alia, the way we work, study, communicate, entertain, socialize, get healthcare and transact with each other. The following are some excerpts from the FICCI paper that I believe are relevant for researching Metaverse as an investment theme.

What is Metaverse?

Meta (Beyond – Greek Word) + Universe (English) = Metaverse is an offering which provides users immersive and multisensory experiences using futuristic technologies.

In technical terms, Metaverse is a network of 3D virtual worlds focused on social connections. It is a collective virtual space, created by the convergence of virtually enhanced physical and digital reality. It is an independent virtual economy, enabled by digital currencies and non-fungible tokens (NFTs). It is device independent and is largely democratized and not owned by a single vendor. Metaverse is built on a combination of Blockchain, Virtual Reality (VR), Augmented Reality (AR), 3D hologram, and Video.

Metaverse allows people to enhance or mimic their physical activities in the virtual space. This could mean transforming the existing physical activities that one is doing or by transporting to a new virtual world. Presently, multiple Metaverses are functioning independently from each other, having a functionality of their own. However, as the concept evolves, we shall see large Metaverses encompassing all the activities with broad functionality, or even conglomerates of multiple Metaverses integrated with each other.”

The opportunity size

A recent Citi report predicts that with 5bn potential uses, the total addressable market for the Metaverse in B2B and B2C segments could be between $8 trillion and $13 trillion by 2030.

Gartner expects that by 2026, 25% of people will spend at least one hour a day in the Metaverse for work, shopping, education, social media and entertainment. Metaverse is a trillion dollar opportunity per year around 2030 onwards while it is a $60billion now in 2022.

On the B2B segment, some of the use cases include:

·         Transformation of “Workspace collaboration” with always ON conference/meeting rooms for global meetings, conferences.

·         Talent acquisition, hiring and onboarding taking a new dimension in Metaverse

·         Digital test run of products and experience different options.

·         Learning, education, training, skill development with avatars (manufacturing, factory setups will get good leverage with this tech)

·         Healthcare (Telemedicine, Therapies, Surgeries)

·         Defense (Training, On-boarding, Recuperation, Simulation)

·         Real-estate, E-commerce companies can have product demos, showcase and branding opportunities

·         Advertising will move to the next level with a unique kind of storytelling experience for the audience using 360 videos and 3D technology.

B2C use cases for Metaverse include

·         Gaming and entertainment

·         Education, Learning, Skilling

·         Travel and Tourism

As a consumer I could already imagine a few things like:

*  No need for expansive showrooms for automobiles, electrical appliances, electronics, watches etc. Virtual shopping malls could be equally popular as the traditional shopping malls.

*  Much less need to physically visit doctors for regular consultation.

*  Much less frequency of business visits. Virtual conferences, book launches.

*  Lower frequency of visits to stadiums for watching games; or to theatres for watching movies.

*  No need for physical coaching/training centers.

*  No need for builders to make a sample flat or employ a huge sales team.

All of this essentially means less traffic on roads and lesser use of air conditioning and therefore less pressure on the environment. The present generation which is reasonably tech literate and is more comfortable with virtual shopping, working and socializing could be hitched to the Metaverses with broader functionalities.

Key concepts

The Metaverse is composed of many core elements that are combined together to provide a whole new world to the users. These technologies include eXtended Reality (XR), Blockchain, Artificial Intelligence and the Internet of Things but are not limited to them.

Blockchain is a shared, immutable ledger for recording transactions, tracking assets and building trust. An asset can be tangible (a house, car, cash, land) or intangible (intellectual property, patents, copyrights, branding). Virtually anything of value can be tracked and traded on a blockchain network, reducing risk and cutting costs for all involved.

A non-fungible token (NFT) uses the technology of blockchain to create something that is unique and irreplaceable in the digital world.

A cryptocurrency, crypto-currency, crypto, or coin is a digital currency designed to work as a medium of exchange through a computer network that is not reliant on any central authority, such as a government or bank, to uphold or maintain it. Individual coin ownership records are stored in a digital ledger, which is a computerized database using strong cryptography to secure transaction.

Artificial intelligence (AI) is the ability of a computer or computer-controlled robot to perform tasks commonly associated with intelligent beings like humans.

The eXtended Reality (XR) is a superset that covers Augmented Reality, Mixed Reality and Virtual Reality. Virtual Environments are considered as synthetic or computer-based spaces.

The Internet of Things (IoT) is a network of people, devices, and services [2] that can sense, connect to one another, make inferences, and act(uate) at scale. It is considered that over 30 billion IoT devices are already deployed globally today.

 The summer has been truly scorching in many parts of the country this year. Reportedly, land surface temperatures neared 55 degrees Celsius over many parts of northwest India; even crossing 60 degrees Celsius over several pockets (see here). The visuals of floods and inundated streets & homes from many states are also disturbing. Obviously, the weather patterns are changing rather quickly and our infrastructure is not designed to handle these changes. Power shortages, urban flooding, uncontrolled wildfires, frequent landslides, roads caving in, flight delays, traffic jams, etc. have become rather common issues.

The rating agency CRISIL highlighted in one of its latest reports (Sustainability Yearbook 2022) highlighted that over 52% of India’s GDP could be exposed to physical risks like wildfire, flood, sea-level rise, or storms by 2050. This cannot be a good augury for a large proportion of our population which is poor and largely dependent on agriculture for its sustenance.

Fortunately, the government is fully conscious about the devastating impact climate change could have on the social-economic milieu of the country. It has forcefully committed itself to ambitious climate goals. Nonetheless, the conditions may not improve much for the current generation. All those in the 15-59yr age bracket may continue to suffer every winter, summer and monsoon season. The duration of spring and autumn has been diminishing for the past many years, anyways.

One less talked about impact of climate change is the declining rate of population growth. Climate change has impacted fertility, affordability and inclination to have children.

The government data has already highlighted the sharp decline in Total Fertility Rate (TFR) of Indian women. The TFR of India is now very close to the replacement rate, indicating that our population is likely to peak much earlier than previously estimated.

Recently, a superstar of Telugu Cinema, Ramcharan Teja and his wife Upasana, were in news for their decision to not have kids in the interest of climate control. Temjen Imna, the Nagaland Minister who was trending all over social media for his comic twist to racism slur faced by the people of North East India, also tweeted, “On the occasion of #WorldPopulationDay, let us be sensible towards the issues of population growth and inculcate informed choices on child bearing. Or #StaySingle like me and together we can contribute towards a sustainable future”.

From my interactions with numerous people across the country, I know for sure that these feelings are not limited to a few celebrities or people from the higher socio-economic strata. Young couples even from smaller towns and villages are deciding not to have children. Affordability and desire to live a “free” life without the responsibility of raising children are two primary reasons offered for their decisions. In recent months, the worsening social harmony and high crime rate have also been added by some couples to the list of reasons for not having children.

I believe that this trend is a global trend, not specific to India. In my view, therefore, demographic change (ageing and population decline) is a much bigger investment theme as compared to climate control (or ESG). From a long term perspective (2-3 decades) deflation, technology, insurance, healthcare, home appliances, casual clothing, home delivery etc. should be the popular themes. Inflation, personal mobility, fashion, travel, food and water etc. should become increasingly less popular trades.

 I find nothing more disturbing than demolition of a long preserved and much cherished image or belief. Occurrence of this often gives rise to cynicism, shaking the core of the belief system. The recent act of violence in Japan is one such event.

People of my generation have known Japanese people for their politeness and commitment to non-violence. The pictures of Japanese crowds showing remarkable patience and calmness during adversities have been much cherished by post WWII generations. The assassination of the former Japanese Prime Minister Shinzo Abe, last week, while he was addressing a public meeting has shattered many images I was carrying in my mind. This is perhaps first of its kind of act of violence since assassination of Inejirō Asanuma, the then Chairman of the Japan Socialist Party. However, in the pre-war era, political assassinations were rather commonplace in Japan. Japanese people took pride in their martial and imperialistic traditions. Many believe the 1945 nuclear attack on Nagasaki and Hiroshima overwhelmed Japanese society, burdening it with the guilt of being one of the main characters in the two disastrous world wars and losing its pride to the USA.

In fact, after decimation of the manifest fascist forces (e.g., Germany and Italy) and imperialistic forces like Great Britain, Japan and Austro-Hungarian empire post WWII, the world has been a rather peaceful place as compared to the preceding 2000yrs. The conflicts post WWII have mostly been contained. Even during the height of the cold war between NATO and Warsaw Pact countries, and shenanigans of star wars, there had never been a threat of escalation to the scale of larger World War.

However, if we correlate some of the recent events and trends, the picture that would emerge is not very comforting. For example, consider the following events and trends:

·         Assassination of Shinzo Abe.

·         Numerous acts of violence across USA and Europe, apparently perpetrated by random people who are not radicalized.

·         Blatant violation of international laws by Russia in invading Ukraine, as energy starved Europe overlooks the devastation of a sovereign nation.

·         China is threatening its neighbours’ territorial and economic integrity.

·         USA handing over Afghanistan to Taliban.

·         Communists (or socialists) winning elections (re-elections) in many jurisdictions, e.g., US, Germany, France, Italy, Australia, Chile, Mexico, Argentina, Bolvia, Peru, Honduras, and Columbia, etc. Polls are indicating that Bralians are most likely to lecet a leftist eader in October election, as Chinese premier Xi Jinping further strengthens his position at 20^th National Congress of CCP later this year.

·         Reliance of population on governments for meeting basic needs rising exponentially along with the rise in the ffinancial and fiscal vulnerabilities across the globe.

·         Frequency of mass public protests rising in various jurisdictions.

·         Tendency of governments to overregulate and over govern increasing across jurisdictions.

·         Expansion of NATO.

When I look at these events and trends and many other similar things happening around, I get a feeling that people of the world are tired of pretending politeness, being democratic and practicing non-violence. They appear eager to get over their guilty conscience and establish supremacy of their respective races. We may in fact be close to the return of Vikings Age 2.0.

In the past 6-7 decades, we have seen many countries being invaded in the garb of restoring or establishing democracies or people’s rule in these countries. Russia’s invasion of Ukraine ends that façade. This will perhaps re-establish the legitimacy of colonialism and imperialism. We shall see multiple such instances in the coming decades.

Before we reach a stage when the new Roman, British, Ottoman, Qing empire would rise, we need to cover a long distance. Who covers this distance fast while conserving enough energy and stamina to occupy the post would decide the new world order, maybe 40-50years from now.

More thoughts on this later.

 Being the finance minister of India is arguably one of the most challenging jobs in the world. The incumbent has to deal with 28 Federal States and 8 Union territories, each having a distinct socio-economic and fiscal profile. Unlike some developed countries like the USA, the Federal States in India are not autonomous and/or self-reliant in fiscal matters. These states rely on the Union Government for financial resources. Besides, the finance minister of India is limited by the constitutional mandate of being “socialist”. To make things more complicated, implementation of GST; acceptance of the recommendations of 15^th Finance Commission; and abolition of the planning commission have materially curtailed the powers of the union finance minister.

Technically speaking, all the policies formulated and proposed to be implemented by the union finance ministry must pass the test of “socialism”, since the Constitution of India overrides all the legal provisions and policy directives. This makes it very hard for the finance minister to pursue the goal of faster growth through promoting capital investments in the private sector that are likely to eventually result in more socio-economic inequalities.

Even when the finance minister tries to extend fiscal and other support to large businesses to stimulate economic growth, these efforts are invariably met with strong opposition from the politicians belonging to the ruling party & opposition; civil society and common people.

To mitigate the political damage that may be caused by such criticism, the finance ministers have often supported the larger public sector; contrary to the stated policy of minimizing the role of the government in business. Also, the finance ministers in India have often taken the path of ‘crony socialism”.

They often pursue fiscal policies targeted to benefit a specific set of voters and/or specific regions; inviting criticism from the businesses and capital market participants. The finance minister is often criticized for inaction in terms of economic policy and reforms; fiscal imprudence in pursuing profligate social policies and programs; incoherent foreign policy; failure of monetary policy in controlling consumer prices; impeding critical infrastructure projects; incongruent taxation policies; and corruption in financial institutions etc.

The socio-economic condition (especially the fast waning demographic dividend) of the country warrants that the governments vigorously pursue the course of faster and sustainable growth over the next couple of decades. However, the pursuit of this goal would inevitably result in widening and deepening inequalities of income and wealth.

The experience of western developed economies indicates that faster growth ultimately results in 10:90 division of the society – 10% people owning most of the wealth and accounting for most of the savings; while the rest 90% just survive. Of course, the standard of life for the underprivileged 90% in developed countries is much better than the corresponding 90% population in India.

 A recent visit to Jehangirpuri in North Delhi was enlightening in more than one way. It is a colony inhabited mostly by poor workers, consisting of unskilled and semi-skilled factory workers, security guards, auto/taxi drivers, daily wage earners, small vendors selling fruit, vegetable, meat, snacks etc. The elite population of the area includes class IV employees of Municipal Corporation of Delhi and Delhi government. There is a sizable population of motorbike riding youth, working mostly as delivery boys for ecommerce and food delivery platforms. There are numerous unregistered workshops and cottage industries running from houses built illegally. A large majority of the 1,00,000 population of this colony are immigrants from various parts of the states of UP, Bihar and West Bengal. 

Before 1975, Jehangirpuri was a small semi-rural habitation on the outskirts of Delhi. During the Emergency, a resettlement colony comprising a few thousand studio apartments was built here to relocate the dwellers of the slums (mostly immigrant laborers) removed from various locations of Delhi. Over the last 47years, the population has expanded manifold as the employment opportunities around the area have developed. The largest fruit and vegetable market in Asia (Azadpur Mandi), a transport and logistic hub (Sanjay Gandhi Transport Nagar); Delhi’s largest Garbage Dump (Bhalswa), and an Industrial cluster (Burari) are in the vicinity of Jehangirpuri. The area now has an abundance of unauthorized and hazardous construction.

In fact, in most sense it could be compared with the more popular Dharavi of Mumbai – a small world within itself. Though economically residents of the locality mostly fall in the bottom quartile, socially the population is diversified. It has a good mix of religion – Hindu, Muslim, Sikh, Christian. Caste wise though SC, ST, OBC and MBC are in majority; there is decent presence of upper castes like Brahmins from eastern UP and Bihar, Rajput from Rajasthan etc. It is commonly believed that the locality has a decent number of illegal immigrants. It was in the news a few months ago for the wrong reasons (communal riots).

A short 2-3hr visit to Jehangirpuri would give you a good insight into the current socio-economic condition of the country. The local residents come from various parts of the country; work all over the city; and interact with the entire spectrum of population. They are smart and fully aware. They are a good representative sample not only for learning about the latest in social, economic and political issues; but also for finding simple solutions to many of the problems.

The following are some of the interesting highlights from my discussion with the local residents:

·         Even the rich people living in large bungalows are showing concerns about rising prices of fruits and vegetables. Service class people are buying much less quantity. Sale of expensive imported fruits has fallen.

·         The instances of people living in the same locality sharing a taxi have increased due to sharp rise in fares, especially during peak hours.

·         The demand-supply gap for delivery boys is widening. Many young boys are now working for multiple vendors delivering food as well as other merchandise. Motorcycle financing had eased during Covid, but has tightened again now. Getting a driver’s license is also becoming tougher in Delhi. Most youth are taking DL from home towns, which is relatively much easier.

·         There has never been communal tension in the area post 1984 Sikh massacre. Even during 1992-93 Babri demolition unrest, the area was largely peaceful. Almost every resident believes that the local politicians are to be blamed for recent violence.

Incidentally, there are frequent riots in the area over water. For most of the summer, a substantial part of the population in this area depends on “tanker water” for their daily need. Violent clashes at tanker sites are a common occurrence.

·         A group of women demanded, “if US government can give cash to its citizens (referring to California government proposal to give US$1050 to families for meeting higher cost of living) why Indian government cannot give it to poor.” Incidentally most families have been beneficiaries, direct or indirect, of free ration, free health insurance (Ayushman Bharat).

·         People here talk more about local politics of their respective states and Delhi rather than the national politics. The Chief Ministers of UP, Bihar, Delhi found more mention than the Prime Minister.

·         Most of the women living in the area work and contribute to the household economy. The level of gender equality in the area is however pathetic. The crime against women, especially domestic violence and sexual exploitation, are rampant. Most middle aged women accept this as fait accompli; but the young girls are resentful.

·         The residents do not seem to be according any significant importance to the law of the land. For them survival is the top most priority. For police every resident of the locality is a perennial suspect. There are numerous accused, under trial, and convicts in the area. But I could find only one very small NGO operating in the area that helps them in legal matters.

·         The youth of the locality are much more liberated and uninhibited in their personal and social conduct as compared to the middle class neighborhoods in the city.

·         Lot of workers who left the city during Covid, and went back to their respective hometowns, are yet to return. Despite shortage of workers, not many employers are willing to increase wages materially.

·         The awareness about educating children is rising. Most children below 12yrs attend school. While the government schools are preferable, there are many “convent schools” and coaching centers operating from houses. The dropout rate is higher especially amongst the children of migrant workers.

·         The people of Jehangirpuri celebrate all festivals with fervor and gaiety. But the knowledge about religion and spirituality is close to nothing. Most people claim to be deeply religious but their understanding of religion is mostly based on folklores and misinformation. I guess this could be true for a large majority of the Indian population in general. But I found it relevant to discuss in the context of the current environment of hate and intolerance.

·         Unfortunately, a locality that is inhabited by numerous workers engaged in the work of cleaning houses, offices, streets, vehicles etc., is full of filth. The local people and administration are showing no initiative in keeping their own locality clean.

·         Most important, and perhaps most disturbing, learning was that the youth of the area is happy living by the day. None of the young people I spoke to is aspiring for something big. In fact they are too angry and cynical to think anything big. This makes them vulnerable to manipulation by organized criminals and unscrupulous politicians.

I intend to revisit the area during Ramzan and Diwali to gain more understanding of the social fabric and economic strength (or otherwise) of the area.

 Yesterday I had a long discussion with a renowned social media influencer. The core topic of the discussion was what could be a good method to test the character and strength of a phenomenon, e.g., popular leader, progressive society, ideology, innovation, system, organization, etc.

The point of debate was whether the evaluation should be based on how the underlying has performed under the normal stable circumstances or should include the handling of exceptions as well. The conventional wisdom says that the true test of character and strength of a phenomenon is tested during a crisis. When the sailing is smooth, even an ordinary captain will command the ship safely to the destination.

My view is very clear in this context. I believe a phenomenon could be termed so only when it has helped in normalizing an exception(s). For example, to me a captain would be phenomenal if he designs or helps in designing a guidance system that enables all sailors to navigate through turbulent waters comfortably. Similarly, a political leadership would be phenomenal in my view, if it implements a policy framework that is efficient enough to handle most exceptions in the normal course.

In the investment context, enterprises that are always geared to handle economic cycles in the normal course of their business should be the most preferred investment candidates. The enterprises that have shown extreme volatility in their profitability and sustainability during crises like global financial crisis and Covid-19, regardless of eventual recovery and growth should be less preferred than the enterprises that weathered the crises smoothly and maintained a steady progress.

To put it simply, the managements which were showing extreme exuberance in 2018-2019 and have been regularly complaining about raw material price hikes; worker shortages; supply chain issues; consumer demand etc. to justify their poor performance every quarter since mid-2020 may not be the ideal companies to invest, regardless of their popularity or average performance track record over a longer period.

Investors need to remember that it is highly probable that they may need to sell their investment during a crisis when there would be few buyers in the market and the stock they own would be trading at the lowest price in the market cycle. Because this would be the time when their finances would be constrained and their inclination to borrow money, while staying invested in equities, would be at the lowest. Hence, the statistics about 10yr XIRR (usually from the low point of previous market cycles to the highest point in the current market cycle) of a stock is not only redundant but also ridiculous. If at all, they should consider the XIRR from the median point in the previous market cycle to the lowest point in the latest market cycle to assess the performance of a stock.

Elsewhere, some of the most powerful political leaders (technically) in the world, e.g., Joe Biden and Boris Johnson, et. al., have shown extreme vulnerabilities in handling crises. The unconventional monetary policy followed since 2009 has also failed its first examination. Many experiments with laissez faire in India have failed repeatedly. Accordingly, long US equities (on Trump loss); Long London real estate; long developed bonds and long PSUs in India have been some of the notable disappointing trades in recent years.

In my past couple of strategy reviews, I had noted that given the present circumstances, the market outlook is pretty simple and straightforward – Moderate return expectations and focus on capital preservation. In fact, in the past three months the investment environment has become much more uncertain and complex. The geopolitical uncertainties, fiscal policy fatigue and monetary policy dilemma make short term forecasts very complex. These factors further support the idea of keeping the investment strategy simple and continue giving preference to capital preservation over higher returns.

I continue to believe that the economic and market cycles are now becoming much more shallow as compared to the 80s and 90s. The recessions nowadays last for a couple of quarters, not many years. Inflation peaks at 7-8%. Despite all the brouhaha over unprecedented QE and uncontrolled inflation, US rates are expected to peak at 3%. In fact the bond market in the US may already be pricing in a reversal of monetary policy and beginning of a rate cut cycle in 2023. In India also bond yields are expected to peak around 7.5% despite higher fiscal deficit and high inflation.

The market corrections (except the knee jerk reaction to pandemic led lock down) are also shallow and short lived. Unlike in the 1990s and early 2000s, we no longer see 20% plus correction in benchmark indices more frequently now.

The point is that defining market outlook and defining an investment strategy on the basis of that must factor in the new trend of shallow cycles. Relying on historical data of deep cycles may lead to unsatisfactory results.

Market outlook

The market movement in the first half of 2022 has been mostly on the expected lines. Despite the ongoing conflict between Russia and Ukraine, and elevated energy prices, I do not see any reason to change my market outlook for the rest of 2022. I expect-

(a)   NIfty 50 may move in a large range of 15200-18600 during 2022. It would be reasonable to expect 10% + 2% return for the year for diversified portfolios.

(b)   The outlook is positive for IT Services, Financial Services, select capital goods, healthcare and consumer staples, and negative for commodities, chemicals, energy and discretionary consumption. For most other sectors the outlook is neutral.

(c)    Benchmark bond yields may average 7.25% + 30bps for the year. Longer duration may do better in 2H2022.

(d)   USDINR may average close to INR77/USD in 2H2022. Higher yields may attract flows to support INR.

(e)    Residential real estate prices may show a divergent trend in various geographies, but may generally remain stable. Commercial real estate may remain best category

Investment strategy

I shall continue to maintain my standard allocation in 2022 and avoid active trading in my equity portfolio. I am further downgrading my target return for the overall financial asset portfolio for 2022 to 7%.

Equity investment strategy

I would continue to focus on a mix of large and midcap stocks. The criteria for large cap stocks would be growth in earnings; while for midcaps it will be a mix of solvency & profitability ratios and operating leverage.

Debt strategy

I will continue to focus on accrual strategy for my debt portfolio. In case the yields spike beyond 7.75% due to policy rate hikes by RBI, I would lock-in my mid-term funds (3 to 5yrs) in long duration bonds/funds.

 Markets in 1H2022 – As tough as it could be

The first half of the current calendar 2022 was perhaps one of the toughest six month periods for the global markets. In fact, for global equities, the 20% fall in MSCI All Countries index 1H2022 during 1H2022 is the worst ever on record.

The global government bonds are also having the worst year in 150years, as the global central bankers reversed the course of monetary policy. Indian benchmark yields have risen 14.5% during 1H2022.

Energy and Food prices have risen in this period, largely due to war between Russia and Ukraine; but other commodities like industrial metals, steel, and precious metals have mostly shown a downward trend. Gold (-1.3%) is trading marginally lower while silver (-15.6%) has lost in line with industrial metals.

The new age assets like cryptocurrencies have also been decimated in the global melee. The bellwether bitcoin lost over 58% of its value during 1H2022.

USD has gained close to 10% during 1H2022, while JPY and GBP have been significant losers. INR has been a relative outperformer.

 Equity Markets in India

Indian equity markets had their share of pain during 1H2022. Though the benchmark Nifty50 fell ~9.5%, outperforming many major global markets, the pain felt by the investors was significantly deeper.

The market breadth was extremely poor. Only 35 stocks registered gains for every 100 shares declining. The smallcap Index was down ~25%. Besides, the sectors where most exuberance was seen in the past couple of years, namely, IT Services (-28%), Realty (-19%) and Metals (-16%) underperformed the benchmark index materially.

The net institutional flow to the secondary market was marginally positive, though the foreign institutional investors were major sellers (Rs2.25trn).

Anecdotally, non-institutional and household investors usually have largest exposure to the sectors that are showing highest momentum; and hence may have lost much more value than the benchmark Nifty may be indicating.

The market activity has diminished materially in 2Q202, further indicating that the non-institutional and household investors that played a major role in the secondary market in the past couple of years, might have withdrawn to the fringes.

Nifty yielded positive return in 9 out of past 10years

Notwithstanding the global problems (Grexit, Brexit, Taper Tantrum, Covid-19) or local issues (Demonetization, GST, drought, slowing growth, Covid-19), Nifty50 has yielded positive return in 9 out of 10 years (2012-2021). The negative return in 2022 (if at all) must be seen in the light of strong performance in 2020-2021.

First episode of major FPI selling in Indian equities

The foreign institutional investors were major sellers in the market. As per the final figures released by the SEBI, the Foreign Portfolio Investors (FPIs) sold INR2.25trn worth of Indian equities in the secondary market during 1H2022. The selling particularly accelerated in 2Q2022, as the war between Russia and Ukraine intensified and Fed committed to larger rate hikes. In Asia, as per the Strait Times, the foreign investors sold USD40bn worth of equity in 7 Asian markets; of which India accounted for ~USD14.5b.

In the past, FPIs have been net sellers in three out of the past 20years. In the past 10years, they were net sellers only in 2015 and 2021. However, in no case the selling was major in relation to the total market or the total FPI holding.

Nonetheless, the net institutional flows in Indian markets remained positive for 1H2022, as the domestic institutions pumped INR2.32trn into the market. There has been no instance of net negative institutional flow in the Indian markets so far.

Global markets

The global markets are arguably witnessing the worst meltdown since the global financial crisis. The pain is visible across asset classes like equities, precious metals, bonds, cryptocurrencies and industrial metals. Only energy and agri commodities have yielded positive returns.

The developed market equities led by USA and EU have been the worst performers, followed by emerging markets and Japan. Volatility has spiked sharply.

Reversal of monetary policy direction has resulted in sharp decline in bond prices, leading the yields higher. USD has accordingly strengthened.

Though inflation has been one of the top concerns, the traditional hedges like Gold and Swiss Franc have not been in demand, as has been the case historically. The decoupling of traditional hedges from inflation trajectory has substantially complicated the trading strategies. Obviously, the jitteriness and bewilderment is materially accentuated as compared to the previous episodes of global market corrections due to macroeconomic factors.

 On 29^th June 2022, Reuters reported a trade deal that could have material and far reaching implications for India’s external trade in particular and the global trade in general as well. As per the agency, it has accessed documents from the Indian Custom department showing that Ultratech, the largest cement manufacturer in India, has imported 1,57,000 tonnes of coal, worth USD25.81million (appx INR2000cr), from Russia. The consignment is invoiced in Chinese currency Yuan (CNY), implying that the payment will be made in CNY, without using the global payment network like SWIFT. The agency also reported that other companies have also placed orders for Russian coal using CNY payments. (see here)

This could be the first instance of an Indian company using CNY to make international payments. Apparently, this time the transaction could be to circumvent the international sanctions on Russia. Ultratech would be using USD to buy CNY in China or Hong Kong to pay the Russian coal producer SUEK. But the success of this transaction may encourage companies to explore INR-CNY and INR-JPY routes of payment in future. It is pertinent to note that Russia and China are successfully conducting CNY-RUB trade for many years.

In the fiscal year FY22, India had a trade deficit of USD79.55bn with China (including Hong Kong) and a trade surplus of USD32.8bn with the US. These two countries are India’s largest trade partners, accounting for 26% of India’s total foreign trade. Notwithstanding the persistence of geopolitical conflict and political rhetoric, China’s (including Hong Kong) share in our foreign trade has risen to 14.4% in FY22. China accounted for 18% of India’s total imports in FY22, against 7.6% for the USA. An INR-CNY payment system in bilateral trade could be extremely beneficial for India, as it may help in bridging the trade deficit with China by making our exports to China more competitive.

Besides, India runs a trade deficit of USD28bn (FY22) with Saudi Arabia, mostly on account of oil imports. Saudi Arabia in turn runs a trade deficit of similar magnitude with China. Successful INR-CNY trade with China and Russia could open doors for non USD settlements with other trade partners also. This could potentially reduce dependence on USD for payment settlement.

It may be argued, CNY could not be as reliable a currency as USD, given the reputation of the Chinese political system and authoritative government. The US has always accused China of manipulating its currency. However, so far not much irrefutable evidence is available to conclude that PoBC has unduly manipulated CNY or exploited its trade partners. On the other hand if we compare the strength in USD considering the amount of USD printed by the US Fed in the past one decade, reasonable doubts emerge over sustainability of USD’s present strength.

The Indian Express highlighted in its 17^th March editorial (see here), “The weaponization of trade, the imposition of sanctions and the exclusion from SWIFT (Society for Worldwide Interbank Financial Telecommunication) by the US could trigger a faster de-dollarisation as countries displaying diplomatic and economic autonomy will be wary of using US-dominated global banking systems.

The US dollar, which is the world’s reserve currency, can see a steady fall in the current context as leading central banks may look to diversify their reserves away from it to other assets or currencies like the Euro, Renminbi or gold.

The notion of de-dollarisation sits well in the thought experiment of a multipolar world where each country will look to enjoy economic autonomy in the sphere of monetary policy.”

V. Ganpathy, a global expert in international trade and technology transfer, also opined (see here) that “India operates a huge trade deficit in excess of $150billion. One of the best way to counter this trade deficit is by introducing Rupee trade for major imports.” Ganpathy believes that the benefits of Rupee trade substantially outweigh losses. He believes, “An aggressive international trade lobbying is required to actively promote Rupee trade with dominant economies.” If India wants to become a global trade player, “the local currency should be the preferred trading instrument.”

The Ultratech deal could just be a small beginning for a major change in India’s foreign trade paradigm.