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Market Voice: Nick Cringle, RBS Wealth Management
November, 24th 2011

With the rising debt crisis in the euro zone, Nick Cringle, global co-chief investment officer of RBS Wealth Management, talks to Puneet Wadhwa about the volatility in global markets, rupee depriciation and the policy paralysis affecting FII investments. Edited excerpts:

The Indian markets have been drifting lower on account of macro-economic headwinds at the global and domestic level. Have they fully discounted the worst?
In CY11, MSCI India (down 21 per cent) has underperformed global peers like the MSCI EM (down 17 per cent) and MSCI World Index (down nine per cent) on account of heightened risks of slowing global economic growth, euro zone debt crisis and concerns on contagion effects of the risk in the euro zone.
This was combined with tempering growth in the domestic economy and delay in reform initiatives. Despite being the strongest earning growth economy among emerging markets, these factors kept external investors guarded on Indian equities.
We expect the prevailing volatility in global markets in a risk-averse environment combined with earning downgrades in local equities, to move in-line with the global markets, though valuations appear attractive.

Also, considering the historical lows during cautious times in global markets and correlation with regional peers, Indian equities could face multiple compressions. Once the dust settles in the global markets, we expect focus would return to local factors and earnings, followed by market performance. Consequently, if this slide in equities is not halted by a game-changing policy response in the global as well in the local arena, then eventually valuation will tempt in bottom fishing investors.

Are you expecting some respite from the sell-off witnessed in global equities or are we still going to move southwards?
Recent data and policy events have not changed our cautious view on risk assets. A game-changing policy is still not evident and valuations are yet to reach compellingly attractive levels. We remain cautious because of the high level of political risk, especially in Europe, and increasing evidence of a globally synchronised slowdown. In circumstances such as these, it is often the case that markets only bottom when valuations become compellingly attractive or there is some sort of positive policy hammer blow that convincingly changes the direction of markets. As yet, we have seen neither.

Do you think policy paralysis and the subdued markets will make things difficult for the government to achieve the divestment target it set? How are the FIIs viewing the so-called policy paralysis with respect to the reform process in India?
On YTD basis, the proceeds from disinvestment in the public sector enterprises have been meagre. The ability to meet the divestments targets at this stage is limited, considering the volatile state of Indias and global stock markets.

Alternately, it has been proposed to use cash held by public sector enterprises on their balance sheets to buy back government equity, by creating cross-holdings. Although there are limits to such an approach, disinvestment revenues could be met at least half way.

Currently FII ownership of Indian equities is close to its peak levels. We think it is more long-term in nature now. Specifically, exposure via participatory notes (P-Notes) was only 11 per cent at the end of August 2011, unlike 38 per cent of total FII assets under custody in October 2007. This suggests that short-term investors are now a much smaller proportion of the FII investor base in India.

With regard to policy delays, till the recent past it has been a concern. However, we are witnessing improvement in momentum, while persistent high inflation, rates and maintainability of growth for attracting flows.

What is your own strategy at RBS? Did you move into cash in the process of the fall? What are your top picks (sectors/stocks) in the current market conditions?
We have already taken action to de-risk our global portfolios in light of the substantial political and event risk centred on Europe and, more recently, increasing evidence of a globally synchronised slowdown. Till March, we were overweight on Indian equities. However, with the global developments and local headwinds, we turned cautious and reduced equity allocations in four phases to the current underweight position.

We like defensives, namely healthcare and consumer staples, while we are underweight-cyclicals, namely, materials and industrials. Also, we have been vociferous for a while on attractiveness of Indian debt for both resident and non-resident investors.

What are you advising your clients at this juncture?
The heightened risks of slowing US growth, the euro zones policy inaction on containing the debt crisis, growing possibilities of default in euro zone states and combined with tempering growth domestically, lead us to believe there will be increased volatility in equity markets, with a downside bias. We suggest an increase to fixed income allocations, to benefit from the prevailing cyclical high yields, while minimising the portfolio volatility.

What is your near-to-medium term outlook for the rupee and crude oil? How do you see the dollar index panning out in the near-to-medium term?
In the near term, the rupee will continue to be sensitive to the changes in investor risk appetite, on the back of ongoing sovereign debt crises in peripheral euro zone economies and the dollars strength. External fundamentals remain key and will remain a drag on the rupee.

However, over the medium-to-long term, the rupee has appreciation potential on the back of relatively strong growth fundamentals and an improving investment climate, which would attract greater capital inflows. We expect the rupee to appreciate and average at 48.50 in Q1CY12 and to 47 by Q4CY12.

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