Deal done - What now for investors?

Deal Signed – Markets breathe a sigh of relief, is the crisis over?

At last, the much-awaited US-Iran peace deal is close to being signed. Markets across the world have greeted the initiative with much relief and a rally across global equity markets has eased much of the pain for investors who have been on a roller coaster ride since February of this year when the turmoil began. But the question remains – where to from here?

Global macro continues to remain challenged as many cross currents are taking center stage and can cause continued volatility in the near term. As Joe Little, Chief Strategist at HSBC Asset Management, notes in his mid-year outlook, “a complex and confusing macro backdrop for investors”. He argues that while the commodity shock from the conflict in West Asia will have an inflationary impact on prices of energy and agricultural goods, the second-round effects are going to remain limited. But the real issue, he points out is China’s wave of advanced manufacturing exports that are creating a deflationary counter and may last much longer than the near-term inflation shock. And AI as the third vector can cause much more disinflation for an even longer time frame.

Why is this complex? Inflation drives interest rates higher while deflation will drive rates lower as governments and central banks will use monetary tools to induce growth in their economies to avoid a deflationary spiral. Both are contradictory but chronologically removed. Hence the world could be in for policy errors by central banks or brace for volatility in the bond markets as rates yo-yo over this period. And that’s complex and confusing for most investors. The AI element is much more uncertain as to how it will affect economies over the long term.

What should investors closer home in India be worried about?

For one, Indian equity investors should breathe a sigh of relief that the above discussed factors have very less to do with them. India remains slightly isolated from global trends as major transformative AI elements are missing in the India story. India remains a much more traditional economy with a much more predictable near-to-intermediate future than most advanced economies. Basic infrastructure and manufacturing, catering largely to its own domestic economy will be key drivers for economic growth rather than AI driven productivity gains and the flood of advanced Chinese manufacturing imports into the country.

This leads to a much more traditional view on valuations and a more stable environment for most investors. Not that all will be smooth sailing as these currents will cross the India growth story at some point, e.g. the impact AI is having on Indian IT service providers or the China +1 story that is going to get affected as China leaps to more advanced manufacturing yielding lower value commodities to countries like India.

GDP growth linked sectors such as Banking and Financial services will remain robust for earnings growth however tempered for valuation in specific cases as well as manufacturing, infrastructure, automation, automobiles and ancillaries that will benefit from the robust GDP growth that most economists expect for the next few years.

How does the investment landscape look like for Indian investors?

Key insight: Identify the time horizon

• What will work for the next year may not yield to longer time frames. Hence be careful of chasing recent returns if one is investing for the long-term focus on asset allocation rather than individual stocks or current favourites like US equities, Gold or Silver

• Understand that the longer-term India story remains intact due to unique local elements that power the narrative. Domestic growth, infrastructure development, Defense and the penetration of financial services offer good potential as an increasing element of savings in most households shifts from traditional asset choices of real estate and bank deposits to financial savings like mutual funds etc.

• Hurdle rates (read - minimum expected risk-free interest rates) in India will remain high given continued fiscal imbalances and vulnerability to imported inflation via much needed energy commodities indicating that fixed income as an asset allocation will remain a major part of the overall asset allocation framework, lending to stable and less volatile outcomes.

• For longer term investment outcomes to remain realistic rely more on averages rather than timing opportunities and the tendency to switch too often. Both lead to overly conservative portfolios that lead to sub-par returns and increase costs of intermediation and fees.

Asset Allocation will be key

A well-diversified basket of investments will hold the investors fear at bay. A better approach would be goal based investing and sticking to a long-term plan. Here the behavior needed would be resoluteness in the face of longer-term data despite near term hiccups.

This long-term approach ensures that one remains disciplined in spite of near term volatility and appearance of patterns appearing.

Happy investing!