Trade tensions have been the focus in 2018, with the US proposal to impose tariffs on $50 billion Chinese imports, followed by the subsequent reciprocal imposition from China on US imports in equal scale, creating near-term volatility in global financial markets. At the current juncture, the ongoing trade tensions remain well within the realm of negotiation and we see limited economic impact from the resultant trade friction, remaining constructive on equity markets amid healthy economic growth and earnings momentum. However, investors are likely to rotate into markets relatively less linked to global trade. In our opinion, India is a good hedge against a trade war given a strong domestic economy, lower trade dependency, minimal trade surplus with the US, and a domestic-oriented equity market.
Why India is a hedge against trade standoff?
First, India’s macro story is a domestic story. Private consumption contributes about 59% to the country’s overall GDP, much higher than its emerging market peers. India’s reliance on global trade is also much lower than that of its peers, with exports about 19% of GDP and total trade (exports plus imports) about 41% of GDP.
Over the last one year, amid a synchronised global trade recovery, Indian exports have underperformed its Asian and emerging market peers, underlying the country’s relatively lower beta to global trade. India is a net importer, with approximately 85% of imports. This makes the country an attractive destination for global companies. In addition, the government’s recent tax reforms and measures towards ease of doing business further add to its attractiveness.
Second, India’s trade surplus with the US is minimal—India’s trade surplus with the US was $23 billion in 2017, compared to China’s trade surplus of $375 billion. In fact, the US is India’s largest export market, but the dependency on this market has fallen over the years, with the US accounting for 15% of India’s exports in 2017, down from 20% in 2012. India’s top-three exports to the US (approximately 50% of the total) are jewellery, pharmaceutical products and textiles. And except for the pharmaceutical industry, the other industries are unlikely to face tariffs, given the absence of a relevant US domestic industry.
Third, India’s equity exposure to the US is lower than its peers. Indian equity markets derive 7% of its revenue from the US, compared to an average of 10% for the rest of Asia, excluding Japan. India’s entire US revenue exposure is concentrated in software and healthcare, and both sectors’ business model is already in transition because of US-related measures on outsourcing and FDA regulations, respectively, making them relatively more resilient to further trade friction.
Fourth, India’s equity market is domestic-centric. The recent under-performance of Indian equities is largely on domestic worries with concerns regarding the banking sector after fraud allegations, the imposition of capital gains tax on equity, weakening of India’s twin deficits, and rising political uncertainty dampening equity sentiment. India’s equity market derives over 60% of its revenue from the domestic market, higher than its peers. Rising disposable income, favourable demographics, and the government’s focus on farm, rural and infrastructure sectors will continue to aid domestic consumption and infrastructure sectors.
However, India’s trade protectionism, which ranks high globally and has seen some recent increases vis-a-vis import duties across a range of goods, could be a barrier to its trading partners. India ranks second after the US in taking protectionist measures since 2009, and in its latest Union Budget, the government hiked import duty by 10-15% on a range of goods. Other concerns include a return of US concerns on outsourcing and its impact on Indian software companies and trade tensions resulting in higher-than-anticipated inflation from commodity prices, which could curtail consumption expenditure.
Overall, in our view, India’s domestic-oriented economy and equity market with lower trade dependency would help support the country’s performance if trade tensions escalate.
By Nitin Singh
The author is MD & Head, Standard Chartered Wealth Management, India. Views are personal.