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Page 1: Investment Outlook May 2020 - 139.59.35.85139.59.35.85/.../Investment-Outlook-13-May-2020-v2.pdf · Investment Outlook 213 th May 2020 Getting back on feet, slowly and cautiously!

Investment Outlook

1

13th May 2020

Investment Outlook

May 2020

Page 2: Investment Outlook May 2020 - 139.59.35.85139.59.35.85/.../Investment-Outlook-13-May-2020-v2.pdf · Investment Outlook 213 th May 2020 Getting back on feet, slowly and cautiously!

Investment Outlook

2

13th May 2020

Getting back on feet, slowly and cautiously!

Summary: India’s COVID-19 trajectory so far has been more flattish than other nations, but it has been

achieved at a significant economic cost. As unemployment rises and the government’s tax collections falter,

we expect the GDP in FY21 to see a contraction in real terms.

We also expect rural output growth to outpace urban as most of COVID-19 free geographical areas (green

zones) are rural and good FY20 Rabi output is also expected to support Q1FY21 GDP, while urban demand

as well as output would continue to struggle on account of mobility restrictions. We expect economy to

return to normalcy only post vaccine or cure development and availability. Vaccine development will take

at least take 1 year, in our view.

PM has announced a package worth Rs20trn (~10% of India’s GDP), details of which are yet to be

announced. This package likely includes already announced monetary measures and support package for

the vulnerable. Given the limited fiscal space, current package is expected to be mix of credit guarantee,

income tax relaxation, existing budgeted spends being re-purposed rather than fresh spending , which

would imply a slower U-shaped recovery, rather than a V shaped one. However, key reforms on land, labor,

liquidity, and laws coming out from this package would mean more for India’s medium to long term growth

story.

We are also expecting earnings downgrades in H1FY21, which, we believe are not priced in by the markets

yet. Consequently, we expect equity markets to remain range bound with a downward bias and expect

quality and non-quality performance polarization to continue.

RBI is expected to cut repo rate by 50-75bps in CY 2020 to provide support to growth and revive economy.

Given the continued risk aversion of lenders and liquidity crunch in AA- & below rated corporate bond

space, we believe that corporate bonds space will continue to see polarised performance too.

• Equity - Staggered investments over 6 months in funds or portfolio with bias towards high quality

businesses.

• Preference for mutual funds and Portfolios with large cap and quality mid cap holdings.

Recommended mix is 65% large cap, 25% mid cap and 10% small cap.

• Select stocks in consumer staples, health care, telecom, Insurance and select private banks and

quality NBFCs, who manage the economic downturn and post earnings growth, will deliver positive

returns.

• Avoid highly leveraged companies, companies with high fixed operating cost structures, wholesale

lenders, consumer discretionary companies and real estate players.

• Fixed Income – Prefer AAA corporate bonds & Government Securities with 3-5 years maturity profile

with > 1-year investment horizon.

• International Investments – recommend International equity and fixed income opportunities to

diversify country and currency risk. Prefer US equities, Technology oriented funds and Emerging

market US Dollar Bonds.

• Gold - In light of heightened global economic uncertainty and low/negative interest rates across

the globe, Gold as an asset class should do well.

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Investment Outlook

3

13th May 2020

India’s COVID trajectory remains relatively comfortable so far India’s COVID trajectory so far has been relatively flatter and much more comfortable compared to other

countries in the world with 63,400 cases as of 1.30pm, 10th May (source: Covid19India.org). It’s been 57

days (as of 10th May), since India recorded its 100th case and most European countries were inching close

to 2,00,000 cases at this benchmark while number of cases in US has just crossed 1million cases on the

comparable day. Only handful countries like Switzerland, Singapore, South Korea, Israel, Japan, Australia

have had less cases than India on 57th day after the number of cases reached 100 in the respective country.

Also, current pace of doubling in India is 12 days against while it was about 2.5 days when lockdown was

instated on 25th March (based on data sourced from Bloomberg).

Exhibit 1: Total cases growth trajectory:

India’s curve relatively much flatter…

Exhibit 2: and deaths’ trajectory even more

comfortable, with around 2000 deaths

Source: Bloomberg Source: Bloomberg

Exhibit 3: Number of cases across countries on 54th Day (7th May for India) after they marked their 100th case

Numbers

in ‘000s US UK Italy Spain Germany France Iran China Belgium

Cases on

54th day

939 158 169 206 153 185 82 81 47

Canada India Switzerland Singapor

e

South

Korea Israel Japan Australia

61 56 29 10 11 16 8 7

Source: Bloomberg

0

50

100

150

200

250

0 6

12

18

24

30

36

42

48

54

60

66

72

78

84

90

96

10

2Total cases, '000s

Days since 100th case

India USUK ItalySpain GermanyFrance IranChina Brazil

US: 1.26mn

0

5

10

15

20

25

30

0 6

12

18

24

30

36

42

48

54

60

66

72

78

84

90

96

10

2

Total deaths, '000s

Days since 50th death

India US UKItaly Spain GermanyFrance Iran ChinaBrazil Belgium CanadaIndonesia Netherlands Portugal

US:76k

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Investment Outlook

4

13th May 2020

The flatter trajectory has been achieved at a significant economic cost and human

hardship Despite frail health infrastructure and being home to world’s most populous cities, India’s flatter COVID-19

trajectory has been achieved on back of the hardest lockdown in the world (Exhibit 4) which in turn has

been achieved with maximum restriction on movement. With this, a major part of daily wage earners, small

businesses and self-employed people have seen a significant impact to their earnings. Consequently, the

economy is simultaneously experiencing demand and supply shock, making it more difficult than the crises

seen earlier. While there has been partial opening since 20th April, which has further expanded from 3rd

May onwards, return to normalcy looks difficult as most metro cities and demand centers have been

classified as red zones, leading to a stricter lockdown in these areas, than rest of the country. Unfortunately,

the wide opening may still be sometime away. Amidst the nation-wide lockdown, we have also seen

significant rise in unemployment (unemployment rate at 27% on 3rd May 20 as per CMIE), while few

agencies expect India’s Q1FY21 GDP to see a decline with estimates ranging from -10% to -20%yoy decline.

Exhibit 4: Lockdown stringency across

governments

Explaining the chart:

• The index is based on 17 indicators including

travel bans and emergency health care. The

Data is compiled and analyzed by Blavatnik

School of Government at the University of

Oxford

• The chart indicates that India reinstated the

strictest lockdown in the world at early

stages of the spread, given the high

population density and weak health care

infrastructure in the country.

• India’s current index value stands at 93.6

against 97.1 at peak

• While India has contained the spread of the

disease, it has come at a significant economic

cost

Source: University of Oxford; Dated 7th May 20

0

20

40

60

80

100

120

1

10

50

10

0

50

0

1,0

00

5,0

00

10

,00

0

50

,00

0

70

,00

0

1,0

0,0

00

2,0

0,0

00

3,0

0,0

00

5,0

0,0

00

10

,00

,00

0

20

,00

,00

0

Stri

nge

ncy

Ind

ex

valu

e (

#)

Number of cases

India Italy Spain

South Africa United States China

South Korea Japan

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Investment Outlook

5

13th May 2020

Exhibit 5: India’s unemployment rate at a high of 27% as of 3rd May

Exhibit 6: Mar-20 GST collection down 8.4%yoy

Source: CMIE Source: PIB

Expect a contraction in GDP in FY21 Exhibit 7, lists out the GDP forecast for FY21 and FY22 (wherever available) by key global agencies (IMF,

World Bank, ADB), rating agencies and broking institutions. While on an average these agencies expect

0.25%yoy GDP growth in FY21 and 6.9% yoy growth in FY22 (due to low base effect), of these forecasts by

global agencies are most optimistic and broking institutions are least optimistic.

Exhibit 7: GDP growth expectations across institutions

India's GDP forecast (%) FY21 FY22 FY21 FY22

Global Agencies Broking Institutions

IMF 1.87 7.40 Axis Capital -1.70 9.90

ADB 4.00 6.20 UBS -0.40 7.00

World Bank 2.80 5.00 CLSA 2.80 7.00

Average 2.89 6.20 Barclays 0.80 7.70

Goldman Sachs -0.40 Rating Agencies Citi 0.60 8.0

CRISIL 1.80 7.50 Kotak -2.00 Moody's 0.20 5.80 Nomura -5.20

Fitch 0.80 6.70 Average -0.69 7.92

ICRA -1.0 to -2.0 CMIE 0.10 4.50 Average of all 0.25 6.89

Average 0.18 6.13 Source: Incred Research, IMF, ADB, WorldBank, Rating Agencies, Broking Institutions

In our view, the GDP output may be even lower than the forecasts available above and we expect to see a

contraction in GDP this year. The contraction will be driven by mobility restrictions, which will remain in

place till a vaccine or a cure treatment is found and made available to public at large. While, social

distancing will be a new normal for FY21, a quick containment of the infection and development of vaccine

would be the two key factors guiding the economic activity, in our view

While we expect industries in general to recover to their 60-70% output compared to pre-covid levels by

June end, but social distancing norms and transient lockdowns will continue to impact supply. Also,

economic hardship/unemployment would continue to impact demand and particularly discretionary

consumption during the year.

0

5

10

15

20

25

30

0

10

20

30

40

50

May

-19

Jul-

19

Sep

-19

No

v-1

9

Jan

-20

Mar

-20

May

-20

UER

(%

)

LPR

(%

)

Labour participation rate (LPR)

Unemployment rate (UER)

-12

-6

0

6

12

18

24

800

900

1000

1100

1200

Sep

-17

Dec

-17

Mar

-18

Jun

-18

Sep

-18

Dec

-18

Mar

-19

Jun

-19

Sep

-19

Dec

-19

Mar

-20

Total GST Collection (Rs bn)

yoy (% - RHS)

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Investment Outlook

6

13th May 2020

In terms of components of economic recovery, we expect Agriculture on value added

side and Government spend on expenditure side to support the economy. While

Industries such as hospitality, discretionary consumption and private capex would

see the biggest blow. Consequently, rural economy is expected to stand out by

very virtue of significant weakness in urban consumption.

Expected divergence in rural and urban performance, provided upcoming Kharif

season holds well On 3rd May, MHA allowed partial opening of the country, while dividing it into zones (green, orange and

red zones) based on spread and growth rate of COVID-19 cases. There are total of 130 districts in red zone

while about 603 in green and orange zone combined, implying significant movement restriction in 18% of

the country while rest of it opens up to a large functional extent. Top fifteen districts in red zone account for

64% of the of covid-19 cases and out of these, 5 account for 50% of the cases, as per Niti Aayog. Top five

COVID-19 contributors are Mumbai (17%), Delhi (11.3%), Ahmedabad (9.8%), Chennai (5%), and Pune

(3.4%) and these happen to be the major demand drivers as well as important stops in supply chains across

the country. Given the high population density in most metros, containment efforts are expected to

continue to be challenging and we expect only a portion of economy to become fully operational, even

when these areas seeing opening up at a later date, implying a contraction in urban consumption and

output.

On the other hand, if Kharif output pans out normal, it will support the demand in rural areas. Also, in

Q1FY21, we expect Agri GVA to find support from strong Rabi output in end FY20 (Exhibit 8).

Hence, even though the growth in Agri and allied GVA standalone may not be very strong but it will outpace

the urban by the very virtue of decline in urban demand and possibly output too.

Exhibit 8: Strong Rabi output in FY20 to support Q1FY21 Agri GVA growth

Output growth, yoy (%)

Exhibit 9: Geographical spread of Red, Orange and Green zones in India

Source: CMIE

Source: MapmyIndia.com, as of 11th May 2020

-15

-10

-5

0

5

10

15

20

20

07

-08

20

08

-09

20

09

-10

20

10

-11

20

11

-12

20

12

-13

20

13

-14

20

14

-15

20

15

-16

20

16

-17

20

17

-18

20

18

-19

20

19

-20

yoy (%) Rabi Kharif Total

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Investment Outlook

7

13th May 2020

Road to recovery: all eyes on vaccine development timelines Vaccine or treatment development is going to be the biggest monitorable in our view, as that is a single

determinant for normalcy to return in the economy, globally. Typically, clinical trial of a vaccine takes about

5-6 years alone, with average time taken to develop a vaccine are 10.8 years, as per IFPMA (International

Federation of Pharmaceutical Manufacturers and Associations). Vaccine for Ebola was the fastest

developed vaccine so far, which took about 5 years. As per The Economist, Ebola vaccine went in from

phase 1 to phase 3 trials in just ten months.

For COVID-19 vaccine development, wide set of healthcare players are touting the time of vaccine

availability to come down to 12-18 months with an all hands-on deck approach and accelerated production,

while vaccine is still in clinical trial stages. Most of the global pharma majors and research institutes are

collaborating with around 123 vaccines and 200 treatments under development, as per Milken Institute on

9th May. Remdevisir and Favilavir are two antiviral treatment candidates, where hopes are high. Of the 123

vaccines mentioned in Milken Institute tracker, 8 are under clinical trials already. Given a simultaneous

production (along with clinical trials) and quick conditional approvals, the essential supplies (for health care

workers and vulnerable patients) could start as early as Sep-Dec-20, while they will be available to larger

public by mid of CY 2021, in our view. At best, these timelines may be pushed by 3-6 months because of

out of control delays, which would mean an economic would return to normalcy in last quarter of FY22.

Exhibit 10: Progress across key vaccine candidates

Source: Bloomberg

Stimulus is key for survival Of the two levers for stimulating the economy, monetary and fiscal – monetary has done majority of heavy

lifting so far (Exhibit 11). Through various measures RBI has tried to ensure that there is enough liquidity in

the system along with a focus on the transmission of liquidity by means of rate cuts, widening the corridor

between repo rate and reverse repo rate, by bringing CRR & LCR down, but the biggest road block has

been risk aversion in banks to lend to real economy as well as finding enough investable small and mid-

sized NBFCs for TLRTO2.0. We believe that monetary measures by most means are far and enough and RBI

is constantly expanding its tool kit to ensure that India’s financial system remains stable and doesn’t freeze.

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Investment Outlook

8

13th May 2020

Exhibit 11: Key Measures announced by RBI so far

Measures So Far Extended Impact Incred Comments

Measures by RBI

3 months moratorium for all

term loans To keep the businesses and retail

loanees solvent, while cash flows dry up Positive as keeps financials system

afloat amidst lockdown

Cut repo rate by another 75bp

bringing total rate cut of

210bp To bring the costs of borrowing down

Very limited transmission to lending

rates so far.

Widening the corridor

between repo and reverse

repo rates to 65bps

To encourage banks to lend more,

instead of parking cash with RBI Limited impact, banks have been risk

averse in general

CRR cut by 100bp and easing

of MSF conditions Intended to free up liquidity for banks

Should help with cash availability for

banks while borrowers avail

moratorium

TLTRO for investment grade

corporate bonds, CPs and

NCDs

To support liquidity in corporate bonds

markets Limited support with AAA rated

corporates receiving the lions share

TLTRO2.0 for smaller NBFCs

and MFIs To support liquidity for smaller NBFCs,

where the money has been scarce

First auction invited only part bids on

account non-availability of investment

grade small size NBFCs and risk

aversion from banks

Refinancing facility to SIDBI,

NABARD and NHB worth

Rs500bn (to start with)

To support vulnerable segments with

lower liquidity access This way may be more supportive of

liquidity transmission in our view

Increasing ways and means

advances limit for states To help states tide through the lockdown

as tax collections dry up Positive

10% provisioning for loans

overdue on 29th Feb 20 and

availing moratorium To keep banks healthy

Negative from costs perspective, but

positive for health of overall banking

system

Source: RBI

However, the other part of the recovery requires intervention and stimulus from the government, without

which the recovery would be slow. The PM (on 12th May) has announced a stimulus package worth Rs20trn

(~10% of India’s GDP), which likely includes measures announced by RBI so far(discussed above) and PM

Gareeb Kalyan Scheme (including food security and DBT cash transfer), pegged at Rs1.7trn by the

government. The details of this package are yet to be announced.

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Investment Outlook

9

13th May 2020

All eyes on contours of announced stimulus package, which are to be announced shortly:

The central government increased it’s borrowing expectations (on 8th May) from Rs7.8trn to Rs12trn (an

increase of Rs 4.2trn) to manage expenditure as tax collections run dry. With a 2% nominal GDP growth in

FY21, it will imply a fiscal deficit of 5.8% of GDP, against 3.5% earlier budgeted. While 30bp fiscal slippage

can be attributed to the weak GDP growth on nominal basis, 200bps slippage would be on the back of miss

in revenue collection for the year (tax collection and disinvestment target miss, combined) and recently

announced stimulus.

In upcoming announcements by FM, we will watch out for: a) what percentage of this package is monetary

in nature, assuming RBI measures are included here, b) what portion of the package will comprise credit

guarantee scheme (a relatively lower expense), c) we will look out for bank recapitalisation number too

(which will be broadly fiscal neutral in our view), and d) what percentage of this package will be the fresh

expenditure and what will be the restructuring of existing expenditure. e) temporary tax break for impacted

sectors like MSMEs, aviation, retail, real estate etc., f) direct monthly income support to the impacted labour

(larger than what is being offered now), g) immediate investment on health infrastructure to fight the

disease.

Managing the delicate balance between borrowing and growth, while trying to save

sovereign credit rating: Also, though India’s sovereign debt rating currently is investment grade, but

it’s just a notch above junk rating, except in the case of Moody’s, where it is two notches above junk grade

(Exhibit 12). Hence, any downgrade in S&P and Fitch ratings may turn out costly for the economy, while

downgrade in Moody’s may be unavoidable now, in our view. Borrowing by the government and India’s

growth expectations would be the two key factors being monitored by rating agencies globally.

Consequently, A weak growth would also eventually pose a risk to rating downgrade across all agencies as

much as increased borrowing does. This makes, treading this path, a very delicate act. However, as fiscal

deficit of economies globally will balloon this year (owing to the unprecedented crisis), we don’t see an

imminent downgrade risk for S&P and Fitch ratings, if the expansion in fiscal deficit is prudent and

measured. Current borrowing targets remain comfortable, in our view. We believe the risk of outlook

downgrade would be higher than rating downgrade, here. However, if at a later stage the borrowing is to

grow beyond a certain limit or growth fails to recover, the risks of rating downgrade will be materially

higher.

Exhibit 12: India’s Sovereign Debt Rating

Outlook

Long term foreign currency

debt

Long term local currency

debt

Moody's Negative Baa2 Baa2

S&P Stable BBB- BBB-

Fitch Stable BBB- BBB-

Source: Rating Agencies, InCred

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Investment Outlook

10

13th May 2020

Valuations and Outlook - Polarisation in equity performance to continue:

Equities: Focus on large cap and quality mid-caps

Though Nifty50 fell 38% from YTD highs to 7610 levels, it has traced backed back up 22% from the lows,

as of 8th May. At 18.2x current trailing PE, it is below lower 1 standard deviation band for last five year’s

average at 22.4x (Exhibit 13, we are looking at trailing earnings from Bloomberg as next 12 months earnings

outlook remains clouded). The quick retracement of headline index over last one month, is probably pricing

in a quick recovery. However, we believe that in light of limited fiscal space, stimulus would be more

measured, the recovery would be slower U-shaped rather than a V-shaped one. Consequently, even though

the valuations may look attractive now, we feel that the market still hasn’t priced in the earnings downgrade

that are expected in H1FY21, which would leave the equity markets range bound in near term with a

downward bias.

Lenders also seem to be averse to lending at a broader level and smaller corporates below AAA grade

investment rating continue to struggle for liquidity and funds. This would imply that polarization in market

returns will continue with strong and quality corporates continuing to perform well while mid and small cap

will continue till struggle till either there is fiscal support to the distressed or economy gets back on track

again.

Exhibit 13: Nifty 12 month trailing PE below lower 1 standard deviation band for last 5 year’s average…

Exhibit 14: … trailing P/B as well looks comfortable

Source: Bloomberg

Source: Bloomberg

8

10

12

14

16

18

20

22

24

26

28

No

v-0

0

May

-02

No

v-0

3

May

-05

No

v-0

6

May

-08

No

v-0

9

May

-11

No

v-1

2

May

-14

No

v-1

5

May

-17

No

v-1

8

May

-20

Nifty, 12 month trailing PE ratio

Last five year's average P/E

+1/-1SD

1.5

2

2.5

3

3.5

4

4.5

May

-00

Jan

-02

Sep

-03

May

-05

Jan

-07

Sep

-08

May

-10

Jan

-12

Sep

-13

May

-15

Jan

-17

Sep

-18

May

-20

Nifty 50, 12m trailing P/B

Last 5 year's avearage

+1/-1SD

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Investment Outlook

11

13th May 2020

Exhibit 15: Gap between 10 year G-sec yield and Nifty earning yields lowest in last 10 years

Exhibit 16: BSE Mid cap valuations have corrected too, but still away from previous bottoms

Source: Bloomberg

Source: Bloomberg

Fixed Income: Continue to prefer quality and short tenure • RBI is expected to cut repo rate by 50-75bps in CY 2020 to provide support to growth and revive

economy.

• Given a) the continued risk aversion of lenders and b) liquidity crunch in AA- & below rated

corporate bond space, c) along with a very limited success of TLTRO 2.0 by RBI, we believe that

with corporate bonds space will continue to see polarised performance too. Consequently, we

continue to like AAA corporate bonds within 3-5 years maturity (with > 1 year investment horizon).

Even after the recent rally, spread between 3 year AAA and 1 year T-Bill is 220 bps as compared

100 bps, 3 months ago.

• We believe overall yields remain attractive as RBI will continue to do the heavy-lifting towards revival

of economy, thus by focusing on keeping the interest rates low in near to medium term. We believe

benefit of lower yield will flow to the shorter end of the curve while longer end of the curve (10 year

Govt Security) will continue to see stickiness (range bound between 5.8-6.3%) on account of weak

tax collection and a pressure of (even if) mild fiscal stimulus, needed for the economy.

-6.00

-4.00

-2.00

0.00

2.00

4.00

6.00

8.00

No

v-0

0

May

-02

No

v-0

3

May

-05

No

v-0

6

May

-08

No

v-0

9

May

-11

No

v-1

2

May

-14

No

v-1

5

May

-17

No

v-1

8

May

-20

10 year G- Sec yield - 12m trailingEarnings yield

Last 5 year's average

8

13

18

23

28

33

38

43

48

May

-06

Jul-

07

Sep

-08

No

v-0

9

Jan

-11

Mar

-12

May

-13

Jul-

14

Sep

-15

No

v-1

6

Jan

-18

Mar

-19

May

-20

BSE Mid cap, 12m trailing PE

Last five year's average

+1/-1SD

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Investment Outlook

12

13th May 2020

Investment Recommendation • Equity - Staggered investments over 6 months in funds or portfolio with bias towards high quality

businesses.

• Preference for mutual funds and Portfolios with large cap and quality mid cap holdings.

Recommended mix is 65% large cap, 25% mid cap and 10% small cap.

• In terms of sectors,

o Healthcare to continue to do well on account better earnings visibility and demand.

o FMCG is not pricing in the bad Q1 expectations probably, hence we expect a near term

weakness in the space. We believe that over medium term, consumer staples will be better

placed on earnings visibility, hence would recommend accumulation on weakness.

o Telecom will be a beneficiary of the new interim normal as people practice social

distancing, data and digital content consumption goes up, and work from home continues.

Also, in near future digital interactions will continue to be preferred over travelling.

• Stocks - Prefer market leaders, companies with dominant market share and good cash position.

Avoid highly leveraged companies, companies with high fixed operating cost structures, wholesale

lenders, consumer discretionary companies and real estate players.

• We believe that select financials will resume uptrend after NPA concern is addressed and well

managed Banks and NBFCs should do well over long term. Hence, recommend accumulating

private retail banks and good quality NBFC over next few quarters. Post Covid-19 both Life &

general Insurance companies will do well due to focus on risk cover.

• Fixed Income – Prefer AAA corporate bonds & Government Securities with 3-5 years maturity profile

with > 1-year investment horizon.

• International Investments – recommend International equity and fixed income opportunities to

diversify country and currency risk. Prefer US equities, Technology oriented funds and Emerging

market US Dollar Bonds.

• Gold - In light of heightened global economic uncertainty, we expect risk-off sentiment of investors

to sustain. Moreover, low/negative interest rates across the globe bode well for returns on Gold as

an asset class, as investors favor it. We believe that the central banks will continue accumulating

gold too, in line with trend observed over last few years. All these factors bode well for gold as an

asset class.

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Investment Outlook

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13th May 2020

Disclaimer

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