An unprecedented crisis has gripped the world. The global economy is struggling with medical crisis, economic crisis and financial crisis at the same time. While the best brains in the medical fraternity have stepped forward to fight the medical crisis, governments and central banks are stepping in to manage the economic and financial crisis.
The Street is estimating that Covid-19 will reduce global GDP from $85 trillion to $73 trillion. Governments and central banks have announced stimulus packages of almost equal magnitude to support global growth. Globally, we are seeing highest liquidity and lowest interest rates. Investors are learning to live with low to negative interest rates and savers are learning to live with negative real interest rates in most parts of the world.
Governments and central banks have learned from the 1929 experience when inadequate support, lack of urgency and early withdrawal of monetary and fiscal support resulted in the Great Depression. They would like to avoid the same at all costs.
The world seems to be following Japan, where liquidity has been kept surplus, interest rates have been cut to near zero levels and equity has been bought in droves without worrying about the debt to GDP ratio. These measures have failed to put the Japanese economy on the growth path but the world seems to be copying the model.
Global investment flows will be impacted in a meaningful manner with extremely high liquidity and low interest rates. Based on the available data, it will be fair to conclude the following:
- Investment flows will search for returns with less regard for risk. Return generation will take priority in a world where money is in excess supply and interest rates are low. Stocks will be bought on price to vision ratio rather than price to earnings ratio. Lending will happen looking at the yield offered. Pension funds will end up raising the bar on risk in order to generate returns that are necessary for servicing their obligations.
- Investment flows should move from developed world to emerging markets where growth will be higher and governance will be better. Growth and governance will be buzz words for attracting capital flows. Innovation will be rewarded through high capital flows.
- China, sitting on $3 trillion of forex reserves, will have to think of innovative ways to deploy that surplus as the One Belt One Road initiative seems to be receiving setback across the world for the high cost it is imposing on recipient countries. China can't deploy its surplus flows with 'heads I win and tails you lose' strategy. Investment flows from China will face serious reservations from countries around the world.
- Two of the oldest civilisations of the world have come out vastly different from the Covid-19 crisis. China is being viewed suspiciously by the world due to export of Wuhan virus and increasingly belligerent attitude. India became a pharmacy to the world and supplied medicines to combat Covid-19. China's goodwill has come down by a few notches and India's goodwill has gone up several notches in this crisis. Global investment flows, both foreign direct investment as well as foreign portfolio investment, will increasingly put India above China in days to come.
- Global investment flows will move from active funds to low-cost passive funds as active funds aren't able to generate alpha on a consistent basis. Global flows will also move from pure asset classes to alternative asset classes as structuring capabilities enhance return potential of alternative asset classes. Investment flows will shift from simple assets like long only equities, debt, hybrid to complex products like leveraged funds, long-short products, concentrated products and global investments. In a world where returns are going to be extremely difficult to generate, search for higher returns will cross national boundaries.
- India is in an advantageous position. The world, full of liquidity and low interest rates, will be looking forward to invest in India. It will be up to India how much money it wants to accept. India must focus on leveraging domestic savings to generate higher growth. Global capital should be used if it is adding value from a non-monetary point of view. With more than $500 billion of forex reserves, our need for foreign exchange is low. What we need is technology connect to be part of global supply chain management and multiplier effect of enhanced productivity along with capital.