bear market | Bull market: We are in a bear market, too soon to think of a new bull market now – Jonathan Garner, Morgan Stanley

For Morgan Stanley to change the overweight to India, the macro environment would need to improve, as would lower valuations. The ratio of forward PE or book price to return on equity in India is one of the most expensive markets in our hedging universe and indeed globally, says jonathan garnerChief Asia and Emerging Markets Strategist and Chairman of Asset Allocation, Morgan Stanley

The Fed has moved in the expected line and has recognized that we are at war and will crush inflation. What does that mean for financial assets?
Well this is a great time! The 75bp rise came after 28 years. However, we are already in a bear market, at least in my coverage, in general emerging markets. It really goes back to early 2021 when our markets peaked. That’s the overall EM index. We are much cheaper than we were then and earnings estimate provisions have been negative for quite some time. So we think we are actually quite late in the bear market unlike the S&P which only really entered the bear market this year. But what is not clear to us is how we chart a path to a new bull market. It is too early to think of a new bull market.

The terminal rate for the calendar year, which has now been raised to 3.4% by the Fed overnight, indicates a further 150 bps rate hike ahead of schedule. Over the next four meetings, is that going to rock the markets and continue to decline and the bear market continue?
They are certainly bringing forward rate hikes now that it is very clear, and they are doing so at a time when many macro indicators, particularly on the consumer side and the traded goods side, are weakening. We think at Morgan Stanley there are still downside risks and for S&P my colleague Mike Wilson is targeting 3400 to 3500 before we get valuation support. At that level, he would be trading around 15 times the forward PE.

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Now again, just to be clear, we actually prefer emerging markets in general in Asia to the S&P 500 and so we don’t necessarily have to fall as much this year as the S&P, given that our bear market started last year, but if we are right. the S&P is falling, it is difficult to think that our markets are going to rise.

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Are we in a prolonged period of correction or consolidation in time where we may not go down but we may not get up either?
well the indian market it is slightly different from emerging markets in general in that India fared much better than China last year. In fact, all of last year we were overweight India and cautious on China. That changed a bit towards the end of last year, when we felt valuations had become excessive for India. At this time, we are tracking negative earnings revisions for India. The export of commodities is part of our coverage. Countries like Indonesia, Australia or Saudi Arabia are experiencing positive reviews. So for the Indian market, our overview probably tracks those estimate revisions lower and we have to watch how the RBI responds to the Fed. The RBI has rightly started a rate cycle. There are some modest inflationary pressures in India and the Indian market will probably be more correlated to the S&P500 than some of those other markets that have positive earnings drivers, being commodity exporters.

The most striking feature for us has been the sale of FII. The numbers are large and a bit unsettling. Do you think FII sale is here to stay in India?
India is not one of our main target markets. We are seeing other markets where foreigners are cutting positions, particularly in Taiwan and Korea and obviously in China, there were constant sellers throughout last year and the first part of this year.

But yes, I expect the Indian market to be characterized by continued FII outflows for a bit longer until we peak in the US dollar. If the US dollar peaks, which is likely to be around the time that inflation peaks and the Fed frontloading is fully priced in, then the environment may improve a bit for India. But at the moment, the trade-weighted dollar remains very strong globally.

For the base case of India to improve and for you to become bullish on India, would it be just the dollar or are you going to watch crude as well? While all asset classes are down, crude has not and that really hurts India.
Yes, that is correct and it is also positive for some of the markets that I mentioned, such as the Middle East markets, Brazil or even Indonesia. It also accounts heavily in the Australian Oil and Gas Index. So yes, essentially, it’s this dynamic between what the Fed is doing, what the dollar is doing, and what commodity prices are doing, sort of a cocktail, that’s negative for India right now relative to with the rest of our coverage. But we are also tracking these revisions to declining earnings estimates from the bottom up. So while it’s not an outright underweight for us, India, it’s definitely a market that we’re relatively cautious about.

For India to become your market of choice, would you be waiting for the macros to change or would you be waiting for the outright price correction to kick in?
The macro environment would need to improve and we also need to see lower valuations. The ratio of forward PE or book price to return on equity in India is one of the most expensive markets in our hedging universe and indeed globally. So precisely because its performance was relatively resilient last year, it’s not particularly cheap now in relative terms. We also need to keep an eye on that relative valuation.

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