RBI Annual Report 2017-2018 – Part 2

Monday, October 15th, 2018

The RBI Annual Report generally has a lot of interesting charts and data that give good insights into the state of the economy. In this second post, we cover five charts that we found quite informative from the latest report.


1. India’s Comparative advantage in exports

RBI Annual Report

A measure of a country’s export performance is to track its share of world sports over time. According to the RBI report, India’s share of world exports have grown by about 2.5 times between the year 2000 and 2017. When we look at relative increases in particular goods, we see that India’s relative comparative advantage (RCA) “eroded considerably” in the pearls and precious stones segment but has seen some improvement in textiles. The chart above shows the  RCA for the top 5 exports from India and an RCA value greater than 1 indicates a comparative advantage.


2. Large trade deficit with China

We can see from the chart above that we have a large and growing trade deficit with China. Possibly a large contributing factor is the import of smartphone and other electronic goods. On the other hand we have a trade surplus with the US and this is probably why we hear rhetoric from Donald Trump about India having unfair terms of trade with America.


3. Imports of electronics and pearls and precious stones has risen sharply

From the report:

Non-oil non-gold imports accounted for 65.1 per cent of total import growth on a weighted contribution basis as a part of domestic demand spilled into imports (Box II.6.3). Electronic goods, pearls and precious stones, coal, chemicals, machinery and iron and steel together contributed more than half of the growth in this segment (Chart II.6.4)


With import growth largely outpacing that of exports throughout the year, the merchandise trade deficit expanded to a five-year high. Since 2011- 12, the trade deficit has averaged 7.3 per cent of GDP, making it pivotal in the overall balance of payments.


4. The steady rise of Bank Frauds in India

From the report:

The number of cases on frauds reported by banks were generally hovering at around 4500 in the last 10 years before their increase to 5835 in 2017-18 (Chart VI.1a). Similarly, the amount involved in frauds was increasing gradually, followed by a significant increase in 2017-18 to Rs. 410 billion (Chart VI.1b). The quantum jump in the amount involved in frauds during 2017-18 was on account of a large value fraud committed in gems and jewellery sector, mainly affecting one public sector bank (PSB).


5. And the Public sector banks are mostly to blame

From the report:

During 2017-18, PSBs accounted for 92.9 per cent of the amount involved in frauds of more than Rs. 0.1 million, as reported to the Reserve Bank while the private sector banks accounted for 6 per cent. As regards cumulative amount involved in frauds till March 31, 2018, PSBs accounted for around 85 per cent, while the private sector banks accounted for a little over 10 per cent. At the system level, frauds in loans, by amount, accounted for more than 75 per cent of frauds involving amounts of Rs. 0.1 million and above while frauds in deposit accounts were at just over 3 per cent (Chart VI.2). Within the loan category of frauds, PSBs accounted for a major share (87 per cent) followed by the private sector banks (11 per cent). The share of PSBs in frauds relating to ‘off-balance sheet items’ such as Letter of Credit (LCs), LoU, and Letter of Acceptance was even higher at 96 per cent. New private sector banks accounted for more than 20 per cent of the frauds related to ‘cash/cheques/clearing’ and ‘foreign exchange transactions’. New private sector and foreign banks accounted for 36 per cent each of all cyber frauds reported in debit, credit and ATM cards, among others. Out of the seven classifications of frauds in alignment with the Indian Penal Code, ‘cheating and forgery’ was the major component followed by ‘misappropriation and criminal breach of trust’. In ‘cheating and forgery’ cases, the most common modus operandi was multiple mortgage and forged documents. Mumbai (Greater Mumbai), Kolkata and Delhi were the top three cities in reporting of bank frauds through ‘cheating and forgery’. In respect of staff involvement in frauds, banks reported that it was prominent in the categories ‘cash’ and ‘deposits’, which had a much smaller share in the overall number of fraud incidents and the amount involved.

Quarterly Equity Valuations: October 2018

Thursday, October 11th, 2018

We take a look at equity valuations and find that they have moved into even more expensive territory.

We use data from the NSE website starting from when it is available in January 1999 to look at the P/E Ratio, P/B ratio and the dividend yield of the index and compare it to past history.


Price to Earnings (P/E)

Equity Valuations


In the chart above, the red areas highlight when the PE ratio is significantly higher than normal implying that markets are expensive and future returns are likely to be lower than in the past. On the other hand, green areas show when the PE ratio is significantly lower than normal implying that markets are cheap and returns from equities should be higher than average.

On 9th October 2018, the Nifty PE Ratio was at 24.9 which is more than one standard deviation from the historical average of approximately 19. Market valuations have corrected from the value of 28.1 seen in August, but continue to remain expensive territory from an earnings point of view.


Price to Book (P/B)

Similar to the PE chart above, red areas in the PB chart denote times when markets are expensive whereas green areas show when markets are cheap relative to history.

The price to book ratio of the Nifty has moved down to 3.3 and is just below the long term average of 3.5. On the basis of book value, markets are trading in the normal range. The difference between valuation indicators in the PE and PB could be due to cyclically suppressed earnings. Part of this could be due to low capacity utilisation and part of this could be attributed to structural NPA issues with public sector banks that are depressing earnings. Therefore, even though the price is expensive on the basis of current earnings, it could be that an increase in utilisation levels or a normalisation of the NPA situation could give a bump to earnings in the future and normalise the PE.


Dividend Yield


The dividend yield chart denotes value in a manner that is opposite to the PE and PB charts above. When the dividend yield is higher than normal, it means that markets are cheap. Similarly when the dividend yield is lower than normal, it is a sign that markets are expensive. The dividend yield is around the same levels in the last quarter, at 1.3 per cent. This is still close to the long term average of 1.5 per cent.

Linkfest- 94

Tuesday, October 9th, 2018

Interesting commentary from across the web in the last few weeks:


How high is EM corporate debt? – Advisor Perspectives

Global cost of housing – Bloomberg Quint

The framework of the MPC – Bloomberg Quint

The bond market in a rising rate scenario – A Wealth of Common Sense

The performance of PMS in this market – Bloomberg Quint


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Is growth set to slow down?

Monday, October 8th, 2018

Over the last few quarters, growth in the Indian economy has been quite robust. The MPC, in its latest policy statement, talked about how growth “surged to a nine-quarter high of 8.2 per cent in Q1:2018-19, extending the sequential acceleration to four successive quarters”. But the macro environment has now changed substantially, throwing a cloud over the outlook going forward.

First, export growth may not be as supportive as people expect. The world experienced a phase of synchronised recovery between 2016 and 2017. Unfortunately India did not fully participate in this growth story due to domestic policy changes including the GST and demonetisation. The issues related to those events are behind us. But now, there is significant divergence now in the growth of major economies. The EU and Japan have started to slow in 2018 whilst the US continues its momentum. Incremental data also points to a slowdown in China which could have a knock on effect on other ASEAN countries. The global rhetoric on tariffs and trade wars are unlikely to help either. Even though the recent fall in currency should give a boost to exports, we do not have a conducive global environment to take the most advantage of it.

Second, on the domestic front, rising oil prices and the depreciation of the currency are likely to have an effect on growth and inflation. The monetary policy report has some guidance in this matter. According to Manas Chakravarty in the Mint:

The MPR also provides some clues and numbers about how underlying factors affect inflation and growth. For instance, it says that a 10% increase in the international price of a barrel of oil for the Indian crude basket is expected to reduce growth by 15 basis points (bps) and push up headline inflation by 20 bps. The price level also matters—the same percentage increase at a higher price point increases the impact on inflation. For example, an increase from $100 a barrel to $110 a barrel could pull up inflation by around 22 bps. Perhaps more importantly in these times, RBI estimates that for every $1 increase in the price of a barrel of crude, India’s current account deficit could widen by $0.8 billion.

How will changes in the exchange rate affect inflation? Says the MPR: “Assuming a depreciation of the Indian rupee by around 5% relative to the baseline, inflation could increase by around 20 bps, while the likely boost to net exports could push up growth by around 15 bps.” On the other hand, an appreciation of the INR by 5% could soften growth by 15 bps in FY19 and lower inflation by 20 bps

The monetary policy statement had taken average price of the crude oil basket to be $80 and a dollar rate of 72.50, both levels which have already been taken out.

Third, the tight liquidity and credit scenario will also mean NBFCs will be unable to lend very aggressively. The public sector banks are awash with the NPA mess and would be unwilling to lend more and therefore the growth in credit would largely fall to private sector banks. Unfortunately, while these banks would pick up some of the slack, they would not be able to offer the same products and terms as the more aggressive NBFCs. Hence credit growth and therefore demand will likely moderate.

Finally, capital flows have been drying up, with net FPI turning negative both in the equity and debt segment. Additionally, GST revenues have been lower than projected and the government is struggling to meet its fiscal deficit targets. This means that we are staring at a balance of payments problem which would prove to be a dampener on aggregate demand and hence growth.

All in all, this points to an environment which is not conductive to growth going forward.

MPC Meet: October 2018

Friday, October 5th, 2018

A few notes from the MPC statement and press conference today.


But first, a quick recap of the previous August policy and guidance:

In the August meeting, the MPC was of the view that domestic growth momentum was strong and that the output gap was closing. However rising trade protectionism, geo-political tensions and elevated oil prices posed risks to near term and long-term global growth prospects. Additionally, the MPC was of the view that uncertainty around inflation needed to be monitored even after accounting for MSP hikes and elevated crude prices. Keeping these factors in mind, the MPC increased the repo rate by 25 basis points to 6.5 per cent and kept their stance as neutral.


What has happened since the last policy decision:

The last inflation print came in at 3.69 per cent which is below the target inflation of 4 per cent and lower than the MPC’s own target of 4.8 per cent. However between the policies, oil has moved from roughly 70 dollars per barrel to over 85 dollars a barrel. The rupee has also depreciated substantially to over 73 rupees to the dollar. both of these factors could create substantial upside risks to the inflation outlook going forward. In addition, bond yields have moved up sharply and liquidity in the credit markets have tightened with issuances drying up.



Notes from the latest policy statement and press conference:

The policy statement kept the repo rate unchanged but changed its stance to one of calibrated tightening. The RBI governor mentioned that the outlook was overcast with downside risks to global growth and trade. This is due to various factors including country specific emerging market events that have a spill over effect on portfolio flows, global tapering of quantitative easing as well as a normalisation of the monetary policy stance and continuing tariff wars affecting global trade.

Domestically, there is a sequential acceleration of GDP growth, with manufacturing and agriculture in particular doing well. However, the services sector performance has been mixed. Consequently, the GDP print of Q1:2018-19 was significantly higher than that projected in the August resolution.

Inflation outcomes were actually below projections. This was driven by expectations that food inflation would to remain benign. The crude oil rally however would pose upside risks.

In terms of fund flows, FPIs have been net sellers in both equity and debt, whilst net FDI has been positive. Additionally, Rupee depreciation has been moderate compared to its emerging market peers. The RBI governor mentioned that real effective returns on currency has been about 5 per cent.

The MPC noted that global headwinds in the form of escalating trade tensions, volatile and rising oil prices, and tightening of global financial conditions posed substantial risks to the growth and inflation outlook. It is therefore imperative to further strengthen domestic macroeconomic fundamentals.

Urjit Patel mentioned that this could be done in the following way:

  1. maintaining inflation credibility via the monetary policy framework
  2. sticking to fiscal deficit targets at general government level
  3. allowing flexible exchange rate adjustment without undue volatility
  4. retaining adequate liquidity and capital buffers to maintain financial stability particularly in light of the fact that retail credit growth is growing faster than nominal GDP growth
  5. undertaking further structural reforms, and
  6. liberalising capital flows, including FDI

The RBI also had a short note on the current crisis in NBFCs. They mentioned that the RBI, SEBI and the government were monitoring the situation closely. They mentioned that the Asset liability mismatch from NBFC’s due to over-reliance on CP for lower marginal cost of funds. And that a better model would be to rely on equity funding to better match liabilities.

Finally, Urjit Patel mentioned that assumptions on exchange rate and slippage in fiscal deficit were already baked into inflation projections. The MPC has already raised rates twice this year and a change in stance means that rate cut is off the table. Now the two options would be either rate hike or neutral.

Jeff Bezos Interview

Thursday, October 4th, 2018

Interview of Jeff Bezos at the Economic Club of Washington



Some of my key takeaways:

  • Obsessive compulsive focus on the customer vs focus on competitors
  • Using heart, intuition and guts to making decisions. Analytics and data are useful as well, but the most important decisions will be made with the former
  • He commented on his acquisition of the Washington Post that the internet destroys most things for newspapers, but gives one gift: free global distribution. This enables a shift in the revenue model. They can now charge a little bit from a lot of customers globally.
  • There are many different types of smart. Its not just about academics
  • At the peak of the dot com boom, Amazon share price was $113 which swiftly went to $6. Jeff Bezos talks about how the stock is not the company and the company is not the stock. Even though the price collapsed, all the business metrics were going in the right direction.
  • On Amazon Prime: They were looking for a loyalty program. The financials looks terrible because shipping is incredibly expensive. Here is where heart and intuition took a role.
  • If a quarter is good, it is baked in three years ago. Today he is focused on success 3 years from today
  • Physical stores: No point offering a me-too product. Amazon Go and Amazon Books are a very differentiated offering
  • There are two types of founders: Missionaries and Mercenaries. Mercenaries are trying to flip their company while missionaries are more passionate about serving their customers better
  • Whole foods: They are a missionary company and Amazon can augment their mission and add value in different ways
  • In AWS, they got extremely lucky in that they had no competition for seven years. You are lucky in most businesses when you get a two year head start
  • On regulation: It is natural for big institutions to be cross examined. Bezos is of the view that no matter the regulation, customers are still going to want low prices, fast delivery times and big selection and Amazon will continue to deliver that.

Monthly Market Summary: September 2018

Wednesday, October 3rd, 2018

We look at returns of various asset classes such as equity, debt, gold, crude oil and the Indian rupee in our latest monthly market summary.


We use data for these charts from Investing.com


Global Equities

Monthly Market Summary

October was a brutal month for Indian equities. As can be seen from the chart above, the Sensex on a broader level fell over six per cent in the month. The correction in mid and small caps was even larger. However, on a longer term basis, the returns are still in double digits. In fact our recent post on the long term returns on Indian equities corroborates this view. Most other indices had a rather uneventful month, with returns being roughly flat across the board. The US markets continue to deliver the strongest returns over both a medium and a long term basis. The broader emerging market indices have given poor returns over the last one year. This is partly due to escalating trade tensions and a strong depreciation against the dollar.


Fixed Income

Indian bond yields spiked sharply in September, going from 7.95 to 8.20 before closing at just under 8 per cent. The concerns over defaults on the systemically important IL&FS created an overhang on the market. This was amplified by concerns over oil prices spiking, the FED raising interest rates, the currency depreciating sharply and a liquidity deficit at the end of the month due to tax outflows etc.. The market is likely to be driven over the next few weeks by decisions and guidance given at the next Monetary Policy Committee meeting.



Gold moved down in the month and closed below the 1200 dollars per ounce. If the commodity stays below this level or moves strongly away from the 1200-1400 range, it would give a better indication of the long term trend.



Oil continued its rally in September. From a value of 71 in the beginning of August to just over 83 dollars per barrel at the end of September. Because of our large dependance on oil imports, it is important to keep an eye on this figure as it can have a destabilising effect on our macros.


Indian Rupee

The Rupee continued its sharp depreciation against most major currencies in September. In fact, even thought the currency was one of the worst performers globally against the dollar in the month, the rupee depreciated most sharply against the pound, with the GBPINR rate crossing 95 in the month from 91 in August.



Linkfest – 93

Monday, October 1st, 2018

Interesting commentary from across the web in the last few weeks:


RBI policy is less relevant now, guidance is key – Tamal Bandyopadhyay

CP issuances slide amidst liquidity crunch – Bloomberg Quint

India’s health-insurance scheme – The Economist

Summary of the Aadhaar verdict – Bloomberg Quint

Lessons from the 12 IBC cases – Bloomberg Quint

The FED is taking off the training wheels – Bloomberg Quint

A tapering of the boom in US share buybacks? – FT Alphaville

The rise of Silicon Seed investing – Medium

Amazon may not be that unique in retail history – Learning By Shipping

Why do debt crisis come in cycles – Ray Dalio

Quantifying Advisor’s Alpha – The Big Picture

China’s Economic Power – Knowledge@Wharton



Debt Refinance: Differential impact on NBFC’s – YouTube

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What is ESG investing?

Friday, September 28th, 2018

The last few years has seen a global shift toward sustainable investing. It started with investors avoiding putting money toward companies that harm the environment, but over time this has evolved into investments that take into account climate change, social issues and responsible corporate citizenship. Environmental, Social and Governance (ESG) investing is thus a new way of approaching investments that takes into account not just financial parameters, but also social ones.

According to a 2016 report by the Global Sustainability Alliance, over 22 Trillion dollars, or 26 per cent of all assets managed in the world now capture an ESG strategy. The report actually even standardises the definition of ESG investing into different categories. From the report, the categories are as follows:

  1. Negative/exclusionary screening: the exclusion from a fund or portfolio of certain sectors, companies or practices based on specific ESG criteria;
  2. Positive/best-in-class screening: investment in sectors, companies or projects selected for positive ESG performance relative to industry peers;
  3. Norms-based screening: screening of investments against minimum standards of business practice based on international norms;
  4. ESG integration: the systematic and explicit inclusion by investment managers of environmental, social and governance factors into financial analysis;
  5. Sustainability themed investing: investment in themes or assets specifically related to sustainability (for example clean energy, green technology or sustainable agriculture);
  6. Impact/community investing: targeted investments, typically made in private markets, aimed at solving social or environmental problems, and including community investing, where capital is specifically directed to traditionally underserved individuals or communities, as well as financing that is provided to businesses with a clear social or environmental purpose; and
  7. Corporate engagement and shareholder action: the use of shareholder power to influence corporate behaviour, including through direct corporate engagement (i.e., communicating with senior management and/or boards of companies), filing or co-filing shareholder proposals, and proxy voting that is guided by comprehensive ESG guidelines.

HSBC has done a global study with East and Parnters that analyses the state of sustainable financing and ESG Investing and they found that three of the seven above mentioned styles are used by investors globally; ESG Integration, negative screening and sustainably themed investing.

In fact, the HSBC report had a key insight that ESG decisions are increasingly financially driven, proving that the market is sustainable. Investors cite financial returns as being one of the key factors in their decisions about ESG as shown in the chart below:


There is a view in the minds of investors that choosing to invest in an ESG involves a trade-off in returns. The evidence points to the contrary, and returns from ESG investing are just as good as regular investing. Jeremy Grantham of GMO, captures this in his latest report:

So if you can invest in a way that makes you a more responsible corporate citizen, without any trade off in returns, why wouldn’t you?

The recent correction put in perspective

Thursday, September 27th, 2018

The last few weeks have seen a sharp correction in the equity market. Overall valuations are still high, primarily led by the overexposure of indices to financials. We will update our quarterly valuations charts next month, but for this post, we would like to focus on the momentum in the current equity bull market.

Looking at the longer term charts of the Nifty, puts the recent correction in perspective from a technical point of view.



If we look at the one year chart, we will see that the Nifty is actually up about 12 per cent. In fact, the recent correction has only just now brought us below the highs reached in January of this year. RSI levels that indicate the market is oversold and there seems to be strong support around 11,000. The long term upward trend also appears to be intact.



If we look at the 3 year chart, the recent correction looks like a normal occurrence in an otherwise strongly upward moving market.



The same is true with the five year chart.



When we look at the 10 year returns, the correction barely registers, which speaks to the long term compounding power of equities and the strong structural bull market we are currently in.

This final chart is a bit misleading though because it starts near the low point of the 2008 correction and so point to point returns look extremely good. However it is useful to demonstrate the scale of the recent correction compared with long term returns.