SINGAPORE (June 12): The Tantallon India Fund closed down 3.13% in May, another volatile month as the markets weighed a “look through to a new normal” underpinned by “at all costs” fiscal, monetary, and policy support, against the stark economic reality of extended global lockdowns and job losses.
The trade-weighted dollar was the worst-performing major asset, while distressed growth proxies — including US$-denominated emerging-market sovereign bonds, developing-market and European equities and credit, commodity currencies, and small cap stocks — rebounded sharply on the belief that reopening the economy in multiple virus-hit geographies would herald a recovery in global risk appetite.
The break-out in risk assets would suggest a combination of hope in an improving macro environment, unprecedented monetary easing by the US Federal Reserve since the end of February, and asset valuations that are supported by extremely low interest rates.
Locked into a recovery trade, the markets would seem to be ignoring the risks. Treasury yields and rate volatility spiking; an extended pandemic hangover and the 12–18-month hit to corporate profitability; hostile Washington/ Beijing rhetoric escalating in the lead-up to the US presidential elections; and strident civil protests and riots in the US/Hong Kong.
We have continued to engage virtually with dozens of companies on the ground, as well as with local federal and state-level bureaucrats, economists, industry consultants, and sell-side analysts and traders. We found there is no single narrative that holds across the country. India’s Covid-19 regime prioritised saving lives and has been among the most stringent; the economy will contract sharply this year; rural India is in remarkably good shape; domestic bond markets have remained liquid; thanks to the government’s small loans guarantee programme, access to credit has been reassuringly stable; and recent high frequency data would suggest a nascent recovery in the industrial economy, ahead of lockdown measures being eased.
The negative narrative builds on India’s extended background, mass unemployment, and Indian Prime Minister Modi’s unwillingness to debt-finance a significant increase in cash subsidies, grants, social safety nets, and fiscal stimulus, in order to tide the economy over.
Our view is more nuanced
Thanks to the extended lockdown and 125 million daily contract workers having lost their jobs, we expect a short, sharp recession, followed by a strong recovery: we have dramatically scaled back our growth expectations for FY21 ended March 2021 to –2.5%, before reverting to a +7% run-rate in FY22–FY25.
Over the last two weeks, as the lockdown measures have been eased, and as industrial activity resumes in a staggered manner constrained by labour shortages as the migrant labour pool returns to work, the high frequency data we track attests to a strong recovery in electricity consumption, cement prices, new vehicle registrations, metropolitan city traffic congestion and toll-road collections; inter-state commercial vehicle traffic, and grocery and pharmacy sales. The outlier is shopping mall footfall and sales that are only back to about 25% of pre-lockdown levels.
Rural India is a bright spot, thanks to aggressive government intervention, from using specially seconded military convoys and rail transport to ensure minimal disruption to the April/ May harvest, to grain procurement, to farmer cash payments, and to the transportation of grain to the government granaries.
The commitment to try and keep the fiscal deficit (at 70% of GDP) in check imposes fiscal discipline, and allows India to use more conventional fiscal and monetary tools over the next 2–3 years. Yes, it probably precludes a sharp snap-back in the consumer economy, but it is a significant structural positive for inflationary expectations and the medium-term outlook on interest rates, capital flows, and for the currency.
The lockdown was crucial in giving the healthcare system the breathing space to build systemic testing capacity and cope with the inevitable spike in infections as the lockdown measures are eased. Despite extreme population density, India has reported about 6,500 Covid-related deaths thus far; even assuming structural under-reporting, it is a low number, and we would credit Modi’s brave decision to enforce the lockdown in the middle of March.
Valuations are compelling relative to asset values, replacement costs, and the strength of the underlying cash flows. Of the Indian equity market, 70% is trading at a discount to 10- year average P/BV, P/NAV, and P/CF multiples, despite structurally lower inflation and interest rates, modest fiscal/current account deficits and modest aggregate corporate leverage.
However, we are significantly scaling back in our long-held convictions in well-managed, very well-capitalised private banks. The extreme sell-off in March and April in the highest quality financials has been a significant drag on our results for the year, reflecting the risk to earnings and asset quality in an environment of contracting GDP growth, loan repayment moratoriums, and limited visibility on the timing of a recovery. Valuations have corrected to decade-low levels.
Even so, we were negatively surprised by the Reserve Bank of India’s populist recent decision to extend the loan repayment moratorium for another three months — so, six months in total.
We understand the “why” but over the next 12–18 months, we are concerned about the implications for systemic moral hazard (and customer repayment behaviour), and the potential multi-quarter drag for bank margins, reported profitability, asset quality, and capital.
Stock in focus
The stock we would like to highlight this month is Bharti Airtel, India’s second largest integrated telecom and 32.5% owned by Singtel.
With a decade of hyper-competition and painful sector consolidation behind us, the Indian telecom sector is at a structural inflection point as the survivors transition their customers to 4G networks, look to re-farm spectrum, and are finally compelled to raise pricing and bring in foreign capital in order to meet their spectrum obligations and continue re-investing in network upgrades, customer acquisition and developing their e-commerce platforms. Bharti Airtel is uniquely positioned to benefit, given the quality of the network, the significant leverage to higher price realisations, partner relationships, and a recent capital raise to deleverage the balance sheet.
We expect Bharti Airtel’s revenues to conservatively compound at an 18% CAGR over the next three years, well ahead of market expectations of revenues compounding at 12%. Bharti Airtel should also see strong subscriber growth as the market settles around a relatively stable, effective 4G duopoly between Bharti and Reliance Jio.
On the back of price increases, data consumption, and premium entertainment content partnerships, we expect ARPUs (average revenue per unit) to compound at 15% annually.
We expect Bharti Airtel’s operating profits to compound at 65% annually over the next three years versus the market’s expectations of closer to a +40% CAGR.
The Tantallon India Fund is a fundamental, long-biased, India-focused, total return opportunity fund, registered in the Cayman Islands and Mauritius. The fund invests with a three-to-fiveyear horizon, in a portfolio (25–30 unlevered positions), market cap/sector/capital structure agnostic, but with strong conviction on the structural opportunity, scalable business models and in management’s ability to execute. Tantallon Capital Advisors, the advisory company, is a Singapore-based entity, set up in 2003, and holds a Capital Markets Service Licence in Fund Management from the Monetary Authority of Singapore.
