The Daily Update - India upgraded .... but still expensive

Last week Moody’s upgraded India's long-term rating one notch to Baa2, stable. Rated BBB- by S&P and Fitch, this is the first time India has been upgraded in over a decade. Moody’s said, “The decision to upgrade the ratings is underpinned by Moody's expectation that continued progress on economic and institutional reforms will, over time, enhance India's high growth potential and its large and stable financing base for government debt, and will likely contribute to a gradual decline in the general government debt burden over the medium term. In the meantime, while India's high debt burden remains a constraint on the country's credit profile, Moody's believes that the reforms put in place have reduced the risk of a sharp increase in debt, even in potential downside scenarios.”

Despite the well received news across financial markets, the rating upgrade may hold back PM Modi’s plans to ease budget deficit targets announced last week (before the upgrade announcement), as investor confidence becomes ever important. However, on the flip-side, the upgrade could also give a much needed boost to Modi’s re-election campaign; the PM’s home state of Gujarat will elect its 182-member Assembly next month, ahead of the 2019 general elections. Some polls suggest that there is a narrowing gap between Modi’s BJP party and the Congress party. Modi’s decision, last year, to recall ~90% of the country’s circulated currency; saw a spike in inflation and a softer labour sector; thus a dent in sentiment.

Our Net Foreign Asset model views India as a 3 star country, having net foreign liabilities less than 50% of GDP and is therefore within our parameters to invest. We have not looked to add a position in India simply because we cannot find value within the region, despite the one notch upgrade. We could consider the following example to demonstrate our thoughts.

Reliance Industries is an Indian corporation, whose activities span hydrocarbon exploration and production, petroleum refining and marketing, petrochemicals, retail and telecommunications, and is actually rated higher than Indian sovereign by S&P at BBB+. Reliance came to the market with a 10-year offering at 130bps over USTs yesterday, even if we use the best rating of BBB+ our Relative Value Model (RVM) calculates that the bond is ‘unattractive’, with an expected return of -2% and it is 1 notch expensive; i.e. it is being priced as a A- credit. We would rather hold Aa2 rated Kuwait Government bonds, the 3.5% 2027 issue offers ~7.15% expected return and yield and a 3.7 credit notch uplift.

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