Investment Themes

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Changes in India’s Investment Sphere – An Overview of 2018

Recession Chatter

REITs: A Rare Bright Spot in an Otherwise Difficult Year for Canadian Equities

The Importance of China Onshore Bonds in a Portfolio Context

Signing Off 2018: India Equity Market Performance

Changes in India’s Investment Sphere – An Overview of 2018

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Koel Ghosh

Head of South Asia

S&P Dow Jones Indices

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“Change is the only constant,” as quoted by Heraclitus, a Greek philosopher.

The recent assembly election results have reiterated this. We saw a leadership change at the Reserve Bank of India (RBI), with Mr. Shaktikanta Das’s appointment as the new RBI Governor, following Mr. Urjit Patel’s resignation.

The financial markets have also had their fair share of ups and downs. In 2018, India’s equity market witnessed a low when the S&P BSE SENSEX dropped to 32,596 (price return index level as of March 23, 2018), but also saw a high of 38,896 (price return index level as of Aug. 28, 2018)—a fluctuation of 6,300 points and a 19% variation over the year. However, this year the index reached record highs compared with the past 10 years. The S&P BSE SENSEX first crossed the 10,000 mark on Dec. 18, 2008, the 20,000 mark on Sept. 21, 2010, and finally the 30,000 mark on April 26, 2017. The fixed income market was no exception, with the 10-year Government Bond yields crossing 8% multiple times in September and October 2018. There has a been an ongoing discussion on the broadening of the Indian debt market, which faces challenges in terms of liquidity, innovation, investor awareness, and participation.

Other changes introduced by the Securities and Exchange Board of India (SEBI) were style and size definitions for mutual funds, as well as consolidation of  mutual fund schemes to a single offering in each style category in order to create a standardization for the market and its investors. SEBI also advised mutual funds to adopt total return indices (TRI) to benchmark their schemes, effective as of Feb. 1, 2018. This would enable investors to compare the appropriate index with the scheme’s performance.

With the constantly shifting investment landscape, some changes have been significant. The endless discussion around the active vs. passive debate has also progressed. More and more market participants have aligned with the fact that a passive investment strategy can be part of the overall investment goal achievement. A core satellite strategy easily encompasses both active and passive styles. The SPIVA® India Mid-Year 2018 results revealed how large-cap funds in India have been under performing the benchmark, the S&P BSE 100. The index outperformed the fund category by over 87% in the 1-year period, 78% in the 3-year period, 48% in the 5-year period, and 62% in the 10-year period. Active fund managers have been waking up to the fact that large-cap passive investing is a strategy potentially worth evaluating.

Exhibit 2: Percentage of Funds Outperformed by the Index
FUND CATEGORY COMPARISON INDEX 1-YEAR (%) 3-YEAR (%) 5-YEAR (%) 10-YEAR (%)
Indian Equity Large-Cap S&P BSE 100 87.88 78.35 48.08 62.77
Indian Equity-Linked Savings Scheme S&P BSE 200 83.72 61.54 27.78 43.33
Indian Equity Mid-/Small-Cap S&P BSE 400 MidSmallCap Index 62.22 78.26 53.03 50.67
Indian Government Bond S&P BSE India Government Bond Index 82.93 75.47 82.35 94.92
Indian Composite Bond S&P BSE India Bond Index 30.00 60.42 68.70 95.45

Source: S&P Dow Jones Indices LLC, Morningstar, and Association of Mutual Funds in India. Data as of June 30, 2018. Past performance is no guarantee of future results. Table is provided for illustrative purposes and reflects hypothetical historical performance. The S&P BSE 400 MidSmallCap Index was launched on Nov. 30, 2017. The S&P BSE India Government Bond Index was launched on Dec. 31, 2013. The S&P BSE India Bond Index was launched on March 12, 2014. .

Furthermore, government bodies like the Employee Provident Fund Organization (EPFO) and the Department of Investment and Public Asset Management (DIPAM) have supported the passive style of investing with the promotion of exchange-traded funds (ETFs). EPFO’s allocation to equity ETFs stood at 15% of its investible surplus, which is over INR 40,000 crores as of September 2018. Furthermore, the EPFO has been developing software that will allow them to credit the ETFs to subscriber accounts, thereby empowering subscribers for further transaction. DIPAM, on the other hand, used the ETF vehicle successively to liquidate holdings in public sector undertakings. In 2018, they had follow on offers for the ETFs, the S&P BSE BHARAT 22 ETF and the CPSE ETF, both of which were oversubscribed. Their new initiative for a debt ETF could be a strong innovation to promote passive style of investing in the fixed income space.

Passive investing is now getting more emphasis, and as index-based investing offers diversification, transparency, and liquidity, there are positive signals that with growing investor education and awareness, India could witness more growth in the days to come.

References:

The posts on this blog are opinions, not advice. Please read our Disclaimers.

Recession Chatter

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David Blitzer

Managing Director and Chairman of the Index Committee

S&P Dow Jones Indices

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Inspired, or worried, by the stock market there is more and more talk of a recession in 2019.

To look past the usual comment that the stock market predicted nine of the last five recessions, a short list of positive and negative signals:

Why There Won’t be an Early Recession

  • Economy has momentum, growing faster than its potential now
  • Employment, wages rising; unemployment rate low
  • Consumer debt levels and defaults not a problem
  • Consumer spending increasing
  • Interest rates and inflation are low

Why There Will be an Early Recession

  • China, European economic growth slowing
  • Sales of New and existing homes falling
  • Turmoil in Washington
  • Fed is tightening
  • Business facing tighter credit

Economic expansions don’t die of old age. Changing economic conditions lead investors, consumers and business to cut spending, hunker down and hoard cash. What conditions? Sharply higher interest rates, bankruptcies and defaults, collapsing economies in other countries or large natural disasters. The second list isn’t that grim.

What can one conclude? The economy in 2019 is likely to grow more slowly and not feel as good as in 2017 or 2018. Secondly, if the negative factors don’t vanish or shrink a lot, there will be a recession, though it is not clear when.

The posts on this blog are opinions, not advice. Please read our Disclaimers.

REITs: A Rare Bright Spot in an Otherwise Difficult Year for Canadian Equities

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John Welling

Director, Equity Indices

S&P Dow Jones Indices

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Despite weak Canadian equity market returns this year, REITs have continued their long-term outperformance. The benchmark S&P/TSX Composite has fallen 8.5% on a total return basis through Dec. 18, 2018, while the S&P/TSX Capped REIT continues to be a bright spot, gaining 8.8% over the same period—a difference of over 17%.

Market analysts tend to point to rising interest rates as a potential threat to equity REIT valuations. Though prior research[1] has shown this to be a misconception, a common assertion is that REITs are destined to underperform when interest rates rise. The Bank of Canada has raised rates three times in 2018—in January, July, and October, while Canada 10-Year Benchmark bond yields have been unpredictable throughout the year. Canada REIT performance appears to have little to do with the current rate environment; in fact, Canadian REITs have been on a steady rise, particularly in comparison with the largest S&P/TSX Composite sectors as depicted in Exhibit 2.

The outperformance phenomenon further extends across the most recent 3-, 5-, 7-, 10-, and 15-year periods, demonstrating consistently higher returns and lower risk over longer periods when compared to broad Canadian equities.

As of Dec. 18, 2018, the S&P/TSX Capped REIT included 16 constituents. Exhibit 4 shows the five largest components along with estimated contribution figures to the 8.8% YTD total return of the index.

Conclusion

REITs have enjoyed strong returns amid a bumpy Canadian equity market in 2018. While the recent contrast in performance is particularly pronounced, consistently higher returns and lower volatility of the S&P/TSX Capped REIT over longer periods demonstrates strong underlying fundamentals of Canadian REITs.

[1] Orzano, Michael and Welling, John, “The Impact of Rising Interest Rates on REITs,” S&P Dow Jones Indices.

The posts on this blog are opinions, not advice. Please read our Disclaimers.

The Importance of China Onshore Bonds in a Portfolio Context

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Hong Xie

Senior Director, Global Research & Design

S&P Dow Jones Indices

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China’s onshore bond market, the third-largest debt market in the world and trailing only behind the U.S. and Japan, is an important market for international investors, given that China is the second-largest economy in the world. However, historically foreign ownership of Chinese bonds in the domestic market has been negligible, largely due to a lack of market access for foreign investors. As of November 2018, foreign ownership in China’s onshore inter-bank bond market was at 2.5%.[1]

With China opening up its onshore bond market for foreign investors, key progress on the issue of market access was achieved in the second half of 2018. This progress included the implementation of delivery-versus-payment, block trading, and the clarification of tax treatment. Progress on these issues cleared some significant roadblocks for foreign investors to access Chinese onshore bonds, which could promote foreign inflows into China’s bond market in the years to come. In fact, foreign ownership of Chinese bonds in the inter-bank market has increased by 46% and 450 billion RMB (65 billion USD)[2] since the end of 2017 as of November 2018, even though other emerging markets are facing outflows in 2018.

In 2014, S&P Dow Jones Indices launched the S&P China Composite Select Bond Index as a benchmark that is designed to represent high-quality bonds with reasonable liquidity traded onshore in China. The index includes bonds issued by the Chinese central government, three Chinese policy banks, and Central State-Owned Enterprises (CSOEs[3]), and it effectively covers bonds of sovereign and quasi-sovereign credit quality.

Our goal in this blog is to use the S&P China Composite Select Bond Index to examine the performance profile and diversification effect of high-quality Chinese onshore bonds from the perspective of a US investor.

Exhibit 1 displays trade-offs between return and volatility for the S&P China Composite Select Bond Index and other major U.S. asset classes. From August 2013 to November 2018, Chinese onshore bonds had an annualized return of 2.2% and volatility of 4.0%, as compared to an annualized return of 0.9% and volatility of 4.4% for the Bloomberg Barclays Global Aggregate Bond Index.

Exhibit 2 shows the correlation of the S&P China Composite Select Bond Index in both RMB and USD terms with major U.S. asset classes since August 2013.[4] We noted the following findings.

  1. The correlation between the S&P China Composite Select Bond Index returns in USD and RMB is 0.4, which indicates that bond returns in RMB explained 13% of variation for total returns in USD terms for the index. Currency risk contributed to the majority of return variation for RMB-denominated bonds when currency risk was unhedged.
  2. The correlation between the S&P China Composite Select Bond Index returns in either USD or RMB with U.S. equities and U.S. bonds were both relative low, ranging from close to 0 to 0.2. This exemplifies the potential diversification benefit of having Chinese sovereign and quasi-sovereign bonds in a U.S.-focused bond or equity portfolio.
  3. Chinese onshore bonds and stocks are good potential diversification options for each other, as returns from both markets when expressed in RMB shows near zero correlation.
  4. The S&P China Composite Select Bond Index returns in USD correlated with the Bloomberg Barclays Global Aggregate Bond Index at 0.4, which could argue for the potential diversification benefit of having China’s government and quasi-sovereign bonds in a global bond portfolio.

[1]   Source: http://www.chinabond.com.cn/

[2]   Source: http://www.chinabond.com.cn/

[3]   CSOEs are defined as Chinese corporations directly governed by the State-Owned Assets Supervision and Administration Commission of the State Council.

[4]   The first value date of the S&P China Composite Select Bond is Aug. 30, 2013.

The posts on this blog are opinions, not advice. Please read our Disclaimers.

Signing Off 2018: India Equity Market Performance

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Mahavir Kaswa

Associate Director, Product Management

S&P BSE Indices

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The 2017 calendar year noted significant returns after a couple years with nearly flat returns. Continuing with the excitement from 2017, the 2018 calendar year started with exuberance, as the S&P BSE SENSEX reached more frequent lifetime highs through the end of January 2018. However, it failed to sustain these highs, as immediately after the budget was passed, the S&P BSE SENSEX and all other leading indices experienced a sharp fall. As of Dec. 13, 2018, the S&P BSE SENSEX gained approximately 1,872 points YTD, up 6.8% in terms of total returns.

Source: Asia Index Private Limited. Data from Dec. 29, 2017, to Dec. 13, 2018. Index performance based on total return in INR. Past performance is no guarantee of future results. Chart is provided for illustrative purposes.

After witnessing the least volatile year during 2017 (with an annualized volatility of 8.9%), the Indian market has seen an uptick in volatility during 2018, with an annualized volatility of 12.5%. On the global front, higher oil prices, the U.S.-China trade war, and global monetary tightening were the top three drivers of volatility. On the domestic side, factors such as the introduction of the long-term capital gains tax on equity, perceived overall higher valuations of Indian equities, increasing interest rates, concern over falling GDP, and lately, the non-banking financial company (NBFC) liquidity crisis kept the market volatile throughout the year.

The S&P BSE AllCap, which covers more than 95% of India’s listed equity universe in terms of total market capitalization, declined by 4.2%. The declines in the S&P BSE MidCap (-14.1%) and S&P BSE SmallCap (-24.0%), with the simultaneous positive returns for the S&P BSE SENSEX (6.8%) and S&P BSE LargeCap (2.7%), could be attributed to a shift in focus of investors from mid-cap and small-cap stocks to relatively safer bets in large- or mega-cap stocks.

On the sectoral front, the S&P BSE Information Technology and S&P BSE Fast Moving Consumer Goods noted gains of 31.9% and 11.4%, respectively. The revival in demand and sharp depreciation of the Indian rupee helped the Information Technology sector, whereas Fast Moving Consumer Goods stocks noted positive total returns, reflecting India’s consumption story.

Meanwhile, the S&P BSE Finance and S&P BSE Energy ended flat. The S&P BSE Telecom was the worst-performing sector index, with a total return of -41.2%—not surprising, given that most telecommunication services companies tend to be highly leveraged and are facing a potentially intense price war.

Source: Asia Index Private Limited. Data from Dec. 29, 2017, to Dec. 13, 2018. Index performance based on total return in INR. Past performance is no guarantee of future results. Chart is provided for illustrative purposes.

Outlook: With the U.S.-China trade war not cooling off, the IMF’s recent revision of the global GDP growth estimate to 3.7% in 2018 from 3.9%, and the downward bias in India’s GDP growth, the Indian equity market is expected to remain volatile in the near future. Market participants may also be interested in seeing how the government of India will respond to the recent losses in state elections, and how this may affect voter confidence in the upcoming general elections in 2019.

The posts on this blog are opinions, not advice. Please read our Disclaimers.