How do you view India as an investment destination versus other emerging markets? We have seen outflows of foreign investment from stocks for the last two months.
India has the best investment case in emerging markets, in our view. It is the second biggest contributor to global growth after China, and thanks to its very favourable demographics it eventually may become number one. India’s workforce peaks only mid-century, while it has already peaked in China and in developed markets. India is also a key beneficiary of “friend-shoring” and the unfolding AI boom. For this year we expect India to deliver 5.8% GDP growth vs 5% in China and 4% in emerging markets overall.
What is your view on the rupee this year? Does Japan’s nascent steps towards policy normalisation pose a risk for emerging market currencies?
We expect the rupee to be the best-performing Asian currency in 2024, as it has already been so far this year. We expect it to appreciate to USD/INR 83.0 by end-Q4. This may sound small, but it is remarkable given the strong US dollar and the continued weakness we expect in other Asian currencies. We are also more bullish on the rupee than the consensus. The rupee benefits from robust investment inflows, an attractive yield differential and low volatility thanks to the skilful management by the central bank.As Indian debt gets included in global bond indices, investment of a more permanent nature will flow here. However, is the Indian market now being more exposed to global investment volatility?It is indeed a positive surprise. This stems from several government reforms over the past decade driving the formalisation of India’s economy and the financialisation of savings. In 2015, India also revised the mandate of its largest retirement fund (EPFO), making investing in equities permissible, in line with other large markets globally. As a result, since CY21, domestic funds have registered $128 billion of cumulative inflows, supporting markets, even as FIIs inflows have been muted at $6 billion. Despite this scale, India remains an under-penetrated market as equity assets constitute only 9% of households’ financial assets vs up to 30% for other large economies, creating scope for this to be a structural trend.Given that the last mile of disinflation in the US has been quite bumpy, what are your expectations from the Federal Reserve in 2024?
We expect the Fed to start cutting rates in December 2024, and then proceed at a pace of 25 bps per quarter until it reaches a terminal rate of 3.5-3.75% in 2026. The Fed’s key concern is stubbornly high services inflation, which should cool off by year-end. In particular, housing inflation should reflect more of the softness that we have seen in asking rents. The risk to our forecast is that the Fed stays on hold for even longer. This could happen if services inflation stays elevated due to robust consumer demand, or if ongoing goods deflation reverses somewhat abruptly.
How can we expect the US dollar to behave for the rest of the year?
The dollar should weaken once the Fed starts to cut rates, particularly as this will be a scenario of weaker US growth from a strong level. The dollar remains historically overvalued, while price action this year suggests that US data and Fed market pricing are the most important FX drivers. Our EUR/USD forecast by year-end is 1.12, above the consensus, but still below the long-term equilibrium of about 1.20. However, we are concerned that the US landing could take longer, and inflation will be sticky, delaying the Fed cuts to next year.
