Sensex (-1.5%) and Nifty (-0.4%) underperformed the global markets during April as a surge in daily Covid-19 cases in India to 400k+ (~4x peak of 1st wave) led to renewed restrictions across the country. Shortage of medical supplies, imposition of strict lockdowns in some states, sharp loss of momentum in some of the lead indicators dented investor sentiments. Mobility indicators, E-way bills (trucking activity), power demand showed slowdown, while rail freight and GST collections showed healthy trends. Positive news on vaccine front (Sputnik EUA, allowing fast-track approvals for other vaccines, next phase for 18+ from May) provided some relief to the markets. Preliminary 4Q earnings came largely in-line (IT, Financials) and better than expectations (Materials, Staples) which helped support sentiment. In terms of flows, DIIs (Domestic Institutional Investors) almost entirely absorbed the selling from FIIs (Financial Institutional Investors) to the tune of ~$1.5bn, as Domestic Mutual Funds witnessed inflows in March after several months of redemptions. On the sectoral trends, Metals outperformed as regional prices remained strong while Pharma too did well due to reasonable valuations and defensive appeal. Realty, Capital Goods, FMCG and Auto underperformed. Mid cap and small caps outperformed the large cap indices.

The second wave of the pandemic in India continues to be intense. However, looking at (1) stable daily confirmed Covid-19 cases in Maharashtra, the state where the second wave began (2) declining daily confirmed cases in the worst-affected districts of Maharashtra and (3) rising recovered cases in several states over the past few days provide respite. The market has largely ignored the short-term negatives of the pandemic but may want to look deeper into the longer-term implications of and lessons from the pandemic. A well-administered roll-out of the vaccination program over the next 9-12 months will be crucial in holding up market sentiments. Overall growth assumptions on the economy and earnings for FY22 will likely be tested based on the intensity and breadth of the state-level lockdowns but may be well compensated by strong earnings contribution from commodity cyclicals and few global businesses like pharma and technology.

In the recent pronouncements, the RBI continues to follow on its commitment to maintain easy financial conditions until the economic situation stabilises. The Reserve Bank of India (RBI) announced a slew of measures for small businesses and household borrowers, comprising loan restructuring and extensions of moratoriums under the existing schemes. The major announcements included a) credit support to the healthcare sector to address the challenges arising from the ongoing Covid-19 wave, b) extension of loan restructuring till Sep’2021 for retail and MSME borrowers with loans up to Rs. 250mn, and c) enhanced access to funds for small finance banks (SFBs) with SLTRO (special long-term repo operations) of Rs. 100bn at repo rate. RBI also announced its second purchase of government securities of Rs. 350bn under the G-sec Acquisition Program (G-SAP) on May 20, 2021.

The outlook for developed economies, particularly the US is buoyed by 1) the fast pace of vaccinations, 2) USD 1.9tn Fiscal Stimulus, 3) strong household savings and 4) planned infrastructure push. While the latter has a medium-term impact, the former two can result in growth surprising on the upside in the near term. Moreover, the Chinese economy too seems to be on a very stable wicket. The strength of the two largest global economic engines will likely support overall growth for emerging market economies like India as well. As the effect of the huge monetary stimulus eventually shows up in the form of inflation, the tolerance of the US Fed and its reaction to the same will likely be key monitorable for global equity markets in 2021.

Aggregated for the above, we continue to stay with the belief that the Indian economy should witness a recovery in 2021, albeit of a slightly lower intensity than before the onset of the second wave but accelerate thereafter. Based on current assessment, globally oriented businesses, cyclicals and industrials, healthcare and technology will likely dominate most part of 2021 even as consumer sentiment gradually repairs itself from the impact of the second wave during this period. We accordingly configure our portfolios to tactically reflect preference for cyclicals such as financials, industrials, commodities etc in the near-term. Our medium to long term stance is to stay the middle path in portfolio construction with regards to sector exposure, market cap bias and the balance between growth and value. In general, our portfolios continue to be positioned for better risk-adjusted return outcomes over a 3-5-year period.

After remaining under control for long, Covid-19 2nd wave has hit us hard forcing many states to impose partial to full lockdowns and thereby moderating the economical growth activity in April, which otherwise was steadily gaining traction. As the vaccination drive continues to gather pace, the initial impact looks like a slow-down in activity levels as opposed to complete seizure, which happened last year during national level lock-downs.

March GST collections, collected in April, were at an all-time high supported by economic recovery, improved compliance and also as the FY end phenomena. GST collection was at Rs.1,414 bn for March (14% mom) compared to Rs.1,239 bn in February and registered a 7th consecutive month of more than Rs. 1 trn collection. The increase was despite the resurgence in Covid infection rate, but the sustainability of the trend remains doubtful amidst the re-introduction of localized restrictions.

Retail as well as wholesale inflation continued to pick-up, indicative of a rebound in activity levels and pricing pressures. Retail inflation rose to 5.5% vs 5.03% in the previous month largely driven by food (up 5.25%YoY) and fuel prices (up 4.5% YoY). Core inflation (ex-food / fuel) has continued to tick up and printed around 5.72% on back of higher transportation costs. Wholesale inflation rose sharply to 7.4% vs 4.2% in February driven by price rises in the manufacturing segment. Sharp rise in commodity prices seems to be feeding through in end prices of manufactured goods.

Trade deficit has started to widen highlighting improving activity levels. March 2021 trade deficit came in at USD 13.9 bn, up 6.9% from previous month. Exports showed a sharp jump of 60.3% YoY whereas Imports increased by 53.7% YoY. However, FY21 is expected to close with a Current Account Surplus largely on account of Covid-19 led disruption. Foreign Exchange Reserves remained strong at $ 584 bn as end of April, marginally up than previous month.

In April, the average systemic liquidity was ~Rs. 5.47 lakh crore, higher than the previous-month average of ~Rs. 5.19 lakh crore.

RBI in its April MPC (Monetary Policy Committee) policy maintained status-quo on policy rates and continued with accommodative stance as long as necessary, to sustain growth on a durable basis while ensuring that inflation remains within the target going forward. RBI recently announced various measures amidst 2nd wave of Covid-19, largely targeted towards health sector and MFIs / SMEs / MSMEs and also announced the 2nd tranche of G-SAP (G-Sec Acquisition Programme) 1.0 of Rs. 35,000 cr.

Rates largely maintained a softening bias especially in 2nd half of the month supported by dovish MPC policy and also as the market concerns on RBI’s unwinding of policy measures got pushed back amidst Covid-19 led disruption. During the month, 2 to 5 yr G-Sec rallied by 20 – 40 bps while the 10 yr G-Sec benchmark cooled off by ~13 bps to close @ 6.03%. G-Sec outperformed the corporate bonds during the month.

Outlook

Covid-19 situation has worsened significantly, which can delay & also impose the downside risk to nascent economic growth recovery. Amidst the growth disruption, RBI is expected to continue with the similar approach of lose monetary policy through accommodative policy stance as well as benign systemic liquidity as adopted last year to mitigate the impact of Covid-19 on economy. We expect RBI to give prime importance to the economic growth recovery & financial stability as of now, while ensuring that inflation remains within the inflation targeting framework, going forward. RBI’s recent measures on Covid-19 2nd wave & readiness to act swiftly further through various tools, reassurance of surplus systemic liquidity and G-Sec Acquisition Programme points in the same direction.

On inflation front, MPC estimates inflation to remain above 5% for most of FY22, with risks balanced on either side. Inflationary risks can emanate from supply side disruption & rise in global commodity prices that could pose risks to policy stance. We believe, RBI is cognizant of the risk factors on inflation and will embark upon a gradual exit from loose monetary policy depending upon the sustainability of the growth recovery.

Overall, with the recent rapid resurgence of Covid-19 cases, earlier fears of pre-mature withdrawal of RBI’s supportive measures either through upward rate revision or liquidity management have more likely been pushed back to the end of CY21 / FY22 and will more depend on the fast evolving situation. RBI’s continued accommodative policy & liquidity stance, coupled with the G-SAP 1.0 programme is expected to reduce the volatility across the curve and ensure the orderly evolution of the yield curve by addressing the market concerns.

The policy stance to maintain ample liquidity is positive for short end of the yield curve, while the long end also gets supported by the active yield management by RBI through the G-SAP 1.0. We feel that 1-4 years segment of the yield curve continues to provide attractive opportunity from risk-reward perspective and should be a part of core fixed income allocation. Current yields at longer-end provides the benefit of high accrual, given the steepness of yield curve and some allocation at the longer end finds merit on the back of conviction that RBI will manage the yield curve.

Credit Environment had been gradually improving over last few months as the economy restored back to normal. However, Covid-19 2nd wave is expected to delay the recovery with some of the sectors like services, hospitality, retail, transportation etc. getting severely impacted by state lockdowns. Absence of RBI’s moratorium facility like last time is also expected to put pressure on debt servicing capabilities of weaker credits. We believe dispersion between high quality & low quality credits will widen again and one has to be very careful & selective in going down the credit curve.