Prefer developed markets to emerging markets: Julius Baer's Mark Matthews

Topics Mark Matthews

Mark Matthews, managing director and head of research for Asia at Julius Baer
It has been a painful week for the Indian equity markets as indices slipped after the Budget proposals that negatively impacted foreign portfolio investors. Mark Matthews, managing director and head of research for Asia at Julius Baer, tells Puneet Wadhwa that mid- and small-caps appear attractive given their reasonable valuations. Edited excerpts:

How credible do you find the Budget and the Economic Survey math?

The government’s revenue estimate is aggressive, considering the currently weak economic environment and a shortfall in the actual FY19 numbers. Expenditure numbers are not a surprise as they are basically the same as what was presented in the interim Budget. Putting the two together, a fiscal deficit of 3.3 per cent of GDP (gross domestic product) seems difficult. If India is really to become a $5-trillion economy in the next four-five years, the investment cycle and consumer sentiment will have to be better than they are now. In their absence, there would be a need for a lot more government spending and policy support.

What is the outlook for foreign flows to Indian equities in the remaining half of CY19?

The earnings trajectory has a much greater bearing than the Budget, and here we can say that India’s growth has been superior to most of the world. It would be reasonable to assume the second half of this year will see inflows as large as the first half. The only thing that might make foreign investors a little less interested is that capital gains taxes have been increased.

Are you happy with the Budget proposals for the financial sector?

There are measures in the Budget to address the non-banking financial companies (NBFCs), and that is good, but to really get the economy and consumption going again, more government spending needs to be done. The scale of measures being considered to attract foreign funds in bond markets is impressive. If the measures are successful, and there is every reason to think they will be, they will deepen the Indian corporate bond market and bring more sophistication to India’s credit culture.

How comfortable are you with the valuation of the Indian markets? 

The headline number is expensive on 17x FY 2021 earnings. But, a number of things have depressed earnings in the past few years — implementation of goods and services tax (GST), demonetisation, bank clean-up, and one-offs like Tata Motors. Many of the one-offs are receding in the rear-view mirror now. So, the old numbers were depressed versus the potential, and there is catch-up to be done.

How should investors approach the mid- and the small-cap segments?

We have started warming up to the mid- and small-caps given their recent underperformance. Their valuations are also reasonable. The best way to buy them is to average in through funds. In direct equities, we are currently overweight on corporate banks, utilities, cement and capital goods. Remain underweight on consumer staples, oil & gas and NBFCs; equal weight on information technology (IT) and pharma.

Can developed markets outperform their emerging market peers in 2019?

We have a 49 per cent allocation to equities in our global balanced portfolios, which is the highest in some time. This is primarily because it is extremely difficult to find value in the fixed-income market now. One of the few pockets of value is emerging market debt, which is likely to outperform developed market debt. We still prefer developed markets to emerging markets for equities, with a strong bias towards the US (US) than Europe or Japan. 

Why the positive bias for the US despite concerns that it may enter a recessionary phase in 2020?

We had originally forecast a mild recession in the US in the second and third quarters of 2020. But that was because we expected the US Federal Reserve to be hawkish and raise rates thrice this year. Now, we are looking for a rate cut this year. Hence we have pushed our forecast for a mild recession out until 2021. Even that is not a certainty, but with the average economic up-cycle lasting less than five years, and ours now the longest on record and over 10 years old, it should not come as a surprise when and if it happens.

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