Steering through the fog together

Greetings from Team Carnelian!!

Carnelian strategies performance at a glance…

Start to the financial year for sure cannot be more eventful. We all know that such periods of uncertainty are unsettling and nerve-wracking, but history has consistently shown us that such challenging times are temporary. The most important thing during such times is to cut the noise and to stay objective, focusing on fundamentals and looking beyond the immediate future.

The world economy is glaring at unprecedented times, leading to different kinds of risks looming large in the minds of investors like:

• Can the current situation lead to a global recession?

• How is India positioned in the current situation?

• What will be the impact across sectors and our own portfolio?

• How long will this continue and how should one navigate the current uncertainty?

In this letter, we try to address the above questions.

Tariff wars and US resolve:

The Tariff war has created uncertainty in the global markets, resulting in most indices falling by more than ~5-10% in the last two trading days, representing the fourth worst two-day decline in the past 50 years.

Post World War-II, the global order is on a sharp decline, nationalism and protection is on the rise. Reciprocal tariffs have been received differently by different countries but the most significant one is retaliation tariff by China and a tough stance by EU. 

President Trump wants to cut spending (DOGE), boost tax (tariffs), boost manufacturing, and push for the lower interest rates to kickstart investment cycle. This sounds simple but in practice, even if he succeeds, this process will go through intermittent periods of pain, more importantly slowdown in the growth of the US economy.

If President Trump doesn’t succeed or part of the process falters, then there could be prolonged periods of growth challenge.

This current situation has markets worrying, especially given that the US Market Cap is 2/3rd of world market cap, sending ripple waves across the globe.

Well, we don’t know what the outcome will be, but we can surely assess objectively how India stands in the middle of this chaos. 

India’s exports to the US is very small

India’s exports to the US is about 2% of GDP (USD 80bn), with net exports being USD 40bn, around 1% of GDP.

Tariffs on India are much lower than our competition 

The US cannot quickly establish its own manufacturing capacities to meet their domestic demand. Even if it does, the cost of manufacturing is likely to be higher considering its cost structure. The good news is tariffs imposed on India are comparatively lower to most of our competitors, giving us a slight edge.

India's current leadership has a benign relationship with the current US administration. Hence, India is far more positively placed than most of our competitors. It is highly likely that India will eventually establish a Bilateral Trade Agreement (BTA) with the US in the near future.

Hence, we believe, in time, current tariff crisis can be a net positive for India, even if tariffs end up with creating global slowdown.

India’s 5 structural macros are rock solid

1.      Current Account deficit is < 1%

2.      Fiscal deficit is well within control

3.      Banking system - Asset quality is robust with NPA being less than 0.5%

4.      Debt to GDP is at 78% - One of the lowest in the world

5.      Inflation is well managed

Significant monetary policy scope

Strong macroeconomic fundamentals provide the RBI with ample room to implement monetary easing to support growth amidst global challenges. We firmly believe that the RBI will maintain an accommodative stance throughout this crisis.

Soft oil and commodity prices is a boon for India

If global growth weakens and oil and commodity prices remain subdued, it is positive for India as a net importer, helping to keep inflation in check.

In summary, we believe the current environment is likely to create volatility and noise, with constant news circulation. Once dust settles down, India is likely to be net beneficiary of the ongoing crisis. Moreover, the recent correction by ~20% from September 2024, has brought valuations also into a more reasonable range of 17-18 times FY27 earnings.

Looking beyond this volatility and learning from history, we understand that “good news and good prices rarely come together.” During the 2008 global financial crisis and even during the 2020 COVID-19 pandemic, these periods were seen as some of the best times to build, offering tremendous opportunity to create wealth. We view this period as an opportunity to construct a solid portfolio.

Impact on sectors and Carnelian portfolios

• Earnings of BFSI, pharma, CDMO, infrastructure, domestic consumption sectors are unlikely to be impacted from the current scenario. In fact, all of them can positively benefit from the recent accommodative policy pivot by RBI and tax cuts by the Government.

• Sectors like IT can be negatively impacted if US growth slows down. However, we think it’s unlikely to last for very long.

• Manufacturing export-dependent sectors such as chemicals, certain auto ancillaries, and textiles will experience both direct and indirect impacts on their earnings. However, we believe that all of these sectors will ultimately be net beneficiaries in the medium to long term, due to the reasons outlined earlier.

  
  

We are overweight on BFSI, pharma, CDMO and industrials, where the impact of tariffs will be much lower.

We have analyzed companies across our portfolios to understand the impact of tariffs across our portfolio. Weightage of companies which have some exposure towards US manufacturing is approximately 12% in Shift Strategy, 8% in CBAF. We don't think there is any material change in their growth trajectory, but we are keeping a close watch.

If US growth slows, it will lead to a slowdown for the IT sector. While we have an equal weight exposure to the IT sector (BSE 500), we would rather watch for some time, than being reactive to the current situation.

In his 2017 letter to shareholders, Buffett wrote: “There is simply no telling how far stocks can fall in a short period.” But should a major decline occur, he continued, “heed these lines” from Rudyard Kipling’s classic poem “If,” circa 1895.

“If you can keep your head when all about you are losing theirs ... If you can wait and not be tired by waiting ... If you can think - and not make thoughts your aim ... If you can trust yourself when all men doubt you ... Yours is the Earth and everything that’s in it.

We will advise our investors to remain calm and not to be impacted by noise. We all know uncertain times are the best periods for investing. It is this vintage that makes the outcome desirable. Be it COVID or the Ukraine war, where uncertainties were at its peak, risk reward was the best.