Summary

• COVID-19 wreaks havoc across global economies and India is no exception despite strong governmental measures during a 21-day pan-India lockdown, and a well-timed round of fiscal and monetary stimulus
• COVID-19 is a health crisis first and any slowdown on infection spread will create room for a relief rally. However, the economic damage is deep and wide, and markets will first assess the economic hit before exhibiting a durable risk appetite
• Indian credit markets are extremely attractive regarding total return opportunities, but the timing and pace of economic recovery is difficult to pinpoint.

Performance

For March, the fund was down INR 4.90% and a steep 4.61% USD-INR depreciation extended the loss to US dollar 9.28%. This performance was exacerbated by harsh RBI actions to write down the Yes Bank Additional Tier 1 bond. The fund had a single lot of this holding, amounting to 3.31% share of assets and this accounted for the largest share of the March loss. The performance was also dragged by sharp credit spread increases for Indiabulls Housing Finance, Steel Authority of India, Shriram Transport Finance and HDFC Bank. Fund performance was supported by stable prices and interest accruals in G-Secs, Cholamandalam Investments and Finance and Mahindra Financial Services.

Market update

March 2020 saw steep and historic monthly losses across asset classes as the Coronavirus (COVID-19) endemic in China snowballed into a global pandemic, triggering a global health crisis. The first leg of the sell-off was indiscriminate as investors rushed to increase cash levels before discerning between various businesses. For March, the Morgan Stanley Capital International (MSCI) USA, Europe, Emerging Markets (EM), Frontier Markets, EM Latin America Indices fell by 12.8%, 14.6%, 15.6%, 25.1% and 34.6% respectively. Currency and commodities followed suit, with the JP Morgan Emerging Market Currency Index and the Rogers International Commodity Index dropping by 8.4% and 21.0% respectively. Safer assets concurrently rallied with US 10-year treasuries rallying from 1.15% to 0.67%. Gold was stable with upward bias. The S&P VIX levels shot beyond the normalised band of 12-20% to intra-month high of 80-90% and closed at 54%. 

Indian markets mirrored the global markets with additional idiosyncratic domestic developments. Credit markets took a severe jolt on 6 March, triggered by unexpected move by the Reserve Bank of India (RBI) to place India’s fifth largest private sector bank, Yes Bank, under moratorium. It froze daily withdrawal limits at INR 50000 per depositor, INR 100 billion capital infusion at a steep discount to prevailing net worth by consortium of 8 banks led by State Bank of India and a harsh action to completely write-down the additional Tier 1 bonds worth INR 87 billion by invoking Point of Non-Viability clause under Basel 3 framework. Credit markets felt a second big jolt on 18 March, with the viability of Vodafone Idea coming under threat when the Supreme Court of India came down hard on the wireless telecom companies for sharp cuts in self-assessed Adjusted Gross Revenue (AGR) dues in lieu of an earlier directive for complete payment of AGR tax liabilities. The Court went a step further, whipping the Department of Telecom and the media for indulging in these exercises in gross contempt of court. Markets took a final massive jolt on 25 March with the decision to implement a complete, pan-India lockdown for 21 days. Given the severity of health crisis, this is an admirable policy action, but the impact on market volumes and prices was severe.

The Government and RBI quickly followed up with the first steps of fiscal and monetary stimulus respectively on 26 and 27 March:

• RBI advanced its policy meeting and delivered a sharp 75 basis points repo rate cut and widened its policy corridor with a 90 basis points cut in the reverse repo rate.
• On the liquidity front – RBI reducing CRR by 100 basis points to 3% for one year to infuse liquidity worth Rs1.37 trillion, reduce the requirement of minimum daily CRR balance maintenance from 90% to 80% and borrowing limit under Marginal Standing facility from 2% to 3% of SLR until June 30, 2020. The RBI has introduced Targeted LTRO (TLTRO) auctions of up to three-year tenor for a total amount of Rs1 trillion at a floating rate linked to the repo rate, with the liquidity availed under this to be deployed in CPs, investment-grade corporate bonds and NCDs with equal split between primary issuances and the secondary market; investments made even in excess of 25% of total investment permitted will be classified as held to maturity and exempted from large exposures framework.
• To stimulate credit, the RBI has permitted all lending institutions to; 1) allow a moratorium of three months on payment of installments for working capital facilities and term loans outstanding as on 1 March 2020 without asset classification downgrade; 2) recalculate drawing power by reducing margins and/or by reassessing the working capital cycle for the borrowers; and 3) defer the implementation of net stable funding ratio and last tranche of 0.625% of capital conservation buffer by six months.
• The government announced Rs1.7 trillion fiscal stimulus via Pradhan Mantri Gareeb Kalyan Yojana (PMGKY) focused on; 1) food security for next three months to 800 million individuals; 2) direct cash transfers to 367 million people; 3) employment support through payment of entire PF contribution for three months for 43 million low-wage workers; and 4) enhanced credit support to 70 million low-income households.

These steps, along with relief in global markets drove a meaningful relief rally in the final week of March. However, the extreme early month weakness proved difficult to overcome and the result was a sharp monthly loss. The NIFTY-50 and Nifty-500 fell by 23.2% and 24.2% respectively with all sector indices registering losses. The G-Secs yields on 2-year and 10-year treasuries rallied by 32bps and 23 bps respectively but significantly lower than the 75 bps. cut in policy rates. Credit spreads expanded by 30-35 basis points for AAA/AA rated 5-year bonds reflecting the broader economic concerns. The INR weakened by 4.61% against USD, dragged by heavy outflows by Foreign Portfolio investors sold $7.9 billion in equities and $8.1 billion in debt markets, the highest ever outflows in a single month.

Outlook

COVID-19 is a health crisis first and the rate of infection spread will remain the single biggest factor at play for financial asset classes in very near term. Relief rallies will occur, but the upside will be capped owing to limited visibility on the breadth and depth of the economic slowdown. This environment restrains us from increasing our risk appetite despite extremely attractive financial opportunities when viewed through the conventional economic lens.