Markets Catch Fed Fever
The push came largely from India’s IT stocks that lifted the indices closer to record highs
On Episode 372 of The Core Report, financial journalist Govindraj Ethiraj talks to Aditi Nayar, chief economist at ICRA as well as Jawahar Bekay, managing partner at CaptiveAide Advisory.
Our Top Reports For Today
SHOW NOTES
(00:00) The Take: Why India should now think China plus 2
(03:33) Markets catch Fed fever, ride on interest rate cut hopes
(04:58) Oil prices rise once again on war tensions
(06:00) Economists are polling lower GDP numbers for the first quarter, why there is uncertainty here on
(14:33) WIll GCCs eat Indian IT Services companies’ lunch?
NOTE: This transcript contains the host's monologue and includes interview transcripts by a machine. Human eyes have gone through the script but there might still be errors in some of the text, so please refer to the audio in case you need to clarify any part. If you want to get in touch regards any feedback, you can drop us a message on [email protected].
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Good morning, it's Tuesday, the 27th of August and this is Govindraj Ethiraj, headquartered and broadcasting and streaming from Mumbai, India’s financial capital.
The Take: Why India should now think China + 2
I had an interesting conversation with Sharad Sharma, co-founder of iSPIRIT, a not for profit organisation that is driving the Product Nation focus for India, centred around more new generation software products but by addressing government policy, creating market catalysts and helping product entrepreneurs.
iSpirit is the brains trust behind the IndiaStack, is a publicly available Application Programming Interface (API) that provides programmers with programmatic access to a proprietary software application that in turn enables integration of mobile applications with the data securely stored and provided by the government to authenticated Apps.
Or put differently, the common link between a disparate set of programmes and offerings that link many aspects of digital India, from payments to health to access.
India Stack is a complete set of APIs for developers and includes the Aadhaar for Authentication, e-KYC documents (safe deposit locker for issue, storage and use of documents), e-Sign (digital signature acceptable under the laws), UPI (unified payment interface for financial transactions) and privacy-protected data sharing.
iSpirit is now expanding the definition of product to think about manufacturing and R&D. More on that later.
In our conversation he mentioned that while we have been thinking about China + 1, which is to bring manufacturing that is being relocated or shifted around in supply chain shifts from China to India, could we or should we be thinking a few steps ahead.
Example, should we be getting into the garment manufacturing race with China or be now thinking of the machines that help make garments, as China did with Japanese and German sewing machines and created more sophisticated programmable sewing machines which improved productivity for workers in lets say Cambodia.
Of course there is no either or or in these cases but it's a slightly different way of thinking.
I thought maybe the term China + 2 is more appropriate.
The first phase was about +1 where you substitute production and shift it while + 2 is about thinking how you go one step or several steps up the value chain.
Because the +1 part while useful in the short term is ripe for cannibalisation by someone else or will be quite soon.
It is not that companies are not thinking about this already, some are but maybe others are not.
For offshore companies, India will first be seen as an arbitrage opportunity, whether in services or in products, including, let's say garments.
For India to gain clout, it has to think, position and present itself as a +2 player in each or many of these industries.
There is much thinking going on in this space which I will bring up.
Till then, the question to ask is, can I think of China +2 in my industry and if so what will that look like?
And that brings us to the tops stories and themes for the day
Markets catch Fed fever, ride on interest rate cut hopes.
Oil prices rise once again on war tensions.
Economists are polling lower GDP numbers for the first quarter, why there is uncertainty here on.
WIll GCCs eat Indian IT Services companies’ lunch ?
Markets & Oil
It was a day of some small records.
Benchmark Nifty50 ended higher for the 8th consecutive sesion, its longest gaining run this year.
While the gains were small, they were gains nevertheless.
The push came largely from India’s IT stocks that lifted the indices closer to record highs, following of course the Federal Reserve chief’s statement over the weekend suggesting that interest rate cuts were imminent.
The Nifty50 hit the 25,000 mark for the second time ever during the session and closed at 25,010, or up 187 points.
The BSE Sensex ended 612 points to end at 81,698.
The broader indices also ended well on Monday, including at record levels.
Gold held near record highs on Monday, buoyed by a softer dollar and dovish remarks from U.S. Federal Reserve Chair Jerome Powell, Reuters said, adding gold was at $2,524.30 per ounce about $7 shy of the record high of $2,531.60 hit last week.
On Wall Street, stocks rose slightly Monday, with the S&P 500 and Dow Jones Industrial Average near record levels, as investors look to push equities back to record-high levels now that the Federal Reserve indicated that rate cuts are forthcoming, CNBC reported.
Oil Prices Rise Again
After slipping and staying soft in the last few weeks, oil prices rose again after Israel struck targets in southern Lebanon and Hezbollah responded by firing missiles, raising tensions in the Middle East again which provides around 1/3rd of the world’s crude.
Brent crude prices came in touching distance of $80 a barrel once again, as both geopolitical risks as well as an interest rate cut next month weighed on the markets.
Over the weekend, Bloomberg reported Federal Reserve Chair Jerome Powell giving his most decisive signal yet that his inflation-fighting mission has been accomplished at his speech in Jackson Hole, Wyoming, on Friday, saying that “the time has come for policy to adjust.”
“While risks in the Middle East are building following the latest escalation, the market is becoming increasingly immune to these tensions,” said Warren Patterson, head of commodities strategy at ING Groep NV told Bloomberg adding, it has been going on for almost a year now and is yet to have an impact on oil supply.”
Why Economists Are Predicting Lower GDP For First Quarter
A Reuters poll has said that India's economic growth has likely moderated and grew at its slowest pace in a year in the April-June quarter due to lower government spending amid a national election that concluded in June.
Growth so far has been above 7% during previous quarters thanks to strong capital expenditure.
In the April-June quarter, gross domestic product (GDP) was forecast to have grown an annual 6.9%, down from 7.8% in the preceding quarter, the Aug. 19-26 poll of 52 economists showed. Forecasts ranged from 6.0% to 8.1%.
The latest numbers will be released on Friday.
There is an evident slowdown in the economy in the last quarter.
Rating firm ICRA has projected the year-on-year (YoY) expansion of the country’s GDP to fall to a six-quarter low of 6.0 per cent in first quarter (Q1) of FY2025 from 7.8 percent in Q4 FY2024 amid a contraction in government capital expenditure and a dip in urban consumer confidence.
The ICRA estimate is much lower than the RBI’s GDP projection. The RBI has projected the real GDP growth for the first quarter of 2024-25 at 7.1 per cent.
An Axis Capital report signed off by its Chief Economist said India’s first quarter GVA growth could be 5.8% and more on the difference between GVA and GDP shortly.
According to the bank, personal consumption, government consumption and investment have all weakened.
Axis Capital says GDP growth would slow to 6.6% adding that at this stage the weakness could be attributed to election related uncertainty and slowdown in Government spending, both capital and revenue.
The report also sounded somewhat unsure about the near future saying if growth momentum did not improve in the next few months, the annual growth forecast of 7% could be at risk.
I reached out to Aditi Nayar, Chief Economist at ICRA and began by asking her why she was predicting lower GDP numbers and what was the forward implication of her analysis, including for interest rates.
INTERVIEW TRANSCRIPT
Aditi Nayar: You know, it's quite an interesting quarter. Actually, we are projecting a moderate slowdown in the GVA, or the gross value added growth, and we're projecting a much sharper slowdown in the GDP growth, which is the headline number. And there are a couple of transient reasons why we expect growth to slow down, and one specific technical factor, so on the transient side, basically, this was a quarter where the elections were underway, and there was a large impact of that on the government capital spending, which saw a contraction, both for the government of India as well as for the state governments and also rural sentiment remained somewhat uneven and weak in this quarter, which was a fallout of last year's unfavorable monsoon, both of these factors should actually report a healthy pickup in the second half of the year, that is rural demand and government capital expenditure. Now a specific reason why we expect the GDP growth to slow down so much is that last year there was a technical bump up that came in from a sharp contraction and subsidies, which is not the case in Q1 of FY 25 as a result, the difference between the GDP and the GBA growth will probably be closer to a relatively normal 30 basis points in this quarter, as opposed to more than 100 basis points in the previous two quarters.
Govindraj Ethiraj: Okay, so couple of questions. So firstly, can you walk us through the distinction between gross value added and gross domestic product in the manner that you've described it, and why that is important for us to understand what's actually happening.
Aditi Nayar: So typically, when we do the bottom up assessment of economic activity, we go agri industry services, and that adds up to the gross value added, or the GVA to that, an adjustment is made. We add the indirect taxes of the government and we subtract the subsidies that the government has given. And that brings us to the headline GDP number, which is actually a derived number in the manner that I have just explained. So the calculated metric is GVA and the derived metric is GDP. And in the Indian context, what we feel is that when we have large changes in either the indirect taxes or in the subsidies, and this can simply come from quarter by quarter, when subsidies are booked in the cash flow accounting that we have, we feel that the GVA actually provides a much better indication of the actual underlying momentum of economic activity.
Govindraj Ethiraj: Okay? And if you were to, you know, look at GVA, let's say from pre covid to today. Where do we stand?
Aditi Nayar: See pre covid to today? Of course, we would not have come back as strongly as would have been the case if covid had it happened. So we've got a few years where a low base has really pushed up the GVA growth. Last year, another factor that helped GVA was not just volumes, but also margins. So for the manufacturing sector, we had why? Why fall in commodity prices through much of FY 24 and that pushed up the margins for corporates and many sectors. So that added to the value added, and therefore we actually had manufacturing growing very strongly last year. This year, that tailwind is not there in q1 and weather is there in the rest of the quarters will depend on how commodity prices trend from here on out. So manufacturing is unlikely to show as high a GVA growth in fi 25 as it did in fi 24
Govindraj Ethiraj: Right. And if you were to look for the next two quarters, and particularly the breakdown of GVA, or I mean overall economic growth, which is personal, government and investment, how are the individual components looking? So for q1 and Q2
Aditi Nayar: we expect that the gross fixed capital formation will show a fairly sluggish trend Q1 both because of government, which I talked about earlier, and also when we look at the private sector, or even the government sector, when we look at the project announcement and completion, q1 was extremely done, so we expect this to sort of normalize, and government spending to really kick off from the end of onwards, and this should support the GFCF, or the gross fixed capital formation numbers, particularly in the second half of the year, private final consumption expenditure has been extremely uneven. On the rural side, I already talked about the overhang of last year's unfavorable one sold. And on the urban side, the sense we've had is that while the aggregate number looks robust, it's masking or concealing a lot of unevenness for different cohorts of urban India. And the sense we've had is that high income, high net worth or individuals have had strong demand, strong consumption over the last several quarters also people at the bottom of the pyramid who are just entering the workforce have a strong propensity to spend the problem has been what we call the missing middle, where you may have one or two income supporting up to six family members, and their inflation has seems to have had a much bigger impact on consumer sentiment decisions. Now interesting. Three. The last two rounds of the urban Consumer Confidence Survey that the RBI puts out have indicated a dip in the consumer confidence. Now we're wondering whether this is because of the temporary impact of elections on capex or of the heat wave on retail sector jobs, or if there is something more than that, or if it is indeed, you know, high inflation, particularly for food items, seeping into consumer sentiment. We're not going to have a very clear answer on this until the next round of the survey is out for September,
Govindraj Ethiraj: right? And last question, so, how are you linking this with the interest rate scenario? I
Aditi Nayar: mean global and local. So local, obviously we've not moved but globally, many central banks in Europe, for example, have either already reduced say they will reduce further. The Federal Reserve says it will reduce now in September. So should we be in sync or not? So the sense we have is that the Fed is likely to start cutting rates in September. And as far as the Indian growth inflation dynamics are concerned, we are anticipating an undershoot, both for the inflation as compared to the MPCs Q2 forecast, and for GDP as compared to the MPCs Q1 forecast. So if this is to be the case, then potentially it should open up space for the stance to be changed in the October policy review, followed by 225 basis points rate cuts each in December and in February.
Govindraj Ethiraj: Right. Aditi, thank you so much for joining me.
Aditi Nayar: Thank you.
Will GCCs Eat Indian It Services Company’s Lunch
Infosys CEO Salil Parekh in an interview to the Times of India addressed somewhat the challenge from captive centres of large multinationals taking away business from Indian IT Services companies.
The question becomes more relevant today because more and more GCCs are being set up and or expanding.
There are close to 1,600 GCCs in India with around 1.7 million employees.
India’s GCC market is projected to reach $100 billion by 2030.
The link between GCCs and many IT service companies is fairly symbiotic though and has been.
Parikh says companies like Infosys were partners with these GCCs or as these captive centres are called as they are growing in India, because many of their parent organisations have been clients of ours for years.
Second, we've seen that these GCC investments have a lifecycle. Things that were created 10-15 years ago, with changes within the companies, they want to move to some different areas, and then they move away from it. So, in the last 2-3 years, we have taken over some GCCs which are older.
On the subject of GCCs relying on internal resources for Gen AI projects, Parikh says Infosys is doing hundreds of projects in GenAI, across every industry and because it's new, it's something that many large companies want to make sure that they have some ability to drive themselves.
But as you build scale, that knowledge and depth is where we are very good. And we've seen over time that this plays out. As for efficiency, newer GCCs are probably one hundredth, if not one-thousandth of our size. It is difficult with that scale to make the sort of efficient play we have, or even the automation tools that we use, he says.
There is of course another aspect to this.
GCCs are good for the economy because they do create jobs and more domain centric jobs.
A recent study commissioned by Captive Aide, a consulting firm to GCCs and conducted by Feedback Insights, says India is a prime destination for GCCs but companies face significant challenges in leveraging India’s talent pools.
Some 52% of GCCs surveyed prioritise access to a deep talent pool as a key decision to choose India as a destination, though hurdles remain like cultural and communication differences, regulatory compliance and infrastructure limitations.
On the other hand 57% of respondents said significant cost savings were a primary driver for setting up GCCs in India. Some 255 companies were surveyed
But what wins is still, as the study says, the vast reservoir of skilled professionals across domains, from technology and engineering to finance and customer services.
I spoke with Jawahar Bekay, managing partner at Captive Aide Advisory, an old IT services hand and began by asking him what the study was telling us.
INTERVIEW TRANSCRIPT
Jawahar Bekay: I think one of it is that there is a lot more knowledge globally about the capability and the success of the earlier companies that have come and established themselves and done very well. So I don't think there is a need to sell country like we used to in the old days, or do country comparisons in a very big way, all that is done and dusted. So I think it's largely being built on the shoulders and the success of the companies that have come in. And, of course, some fairly good publicity done by the Software Association wherever it goes and travels. And I think, frankly, we're all part of a large global environment now. So word gets around. Few banks come more of them come in because they realize that there are many levers in addition to cost arbitrage, which oftentimes is the first one, but very soon they go beyond that. So I think it's just a snowball effect.
Govindraj Ethiraj: Right. So for someone who doesn't fully understand the nuances here. What would be the difference between, let's say, a long term contract given to a Wipro or Infosys versus setting up a captive center in Bangalore, Hyderabad or wherever.
Jawahar Bekay: That's interesting, because when you say long term contract, there are also long term contracts which have a T clause, as we call it, at the end of the contractual obligation, which is option to transfer to the company that is given the business many IT services companies do sign the T clause with the hope and a prayer that the T is never actually evoked. Now the fundamental difference really is that of more transparency, more control, the ability to groom resources over a longer period of time, potentially see lower attrition rates. There are other considerations. Of course, some kinds of work are very confidential, and therefore concerns of IP and things like that. But more often than not, it's some of the earlier reasons that I gave which also given the maturing of the market, the ability of these companies to remotely visualize that they can manage large teams in a country like India has also significantly improved and changed over time. So
Govindraj Ethiraj: so the projection is that India's GCC market could reach $100 billion by 2030 so I don't know from what number. What's the start point for that? I'm sure you tell me how is the overall talent pipeline looking like? And let me ask this in the context of what we're seeing in IT services, where, let's say, the most companies are now either plateauing in terms of hiring or even shrinking the large ones.
Jawahar Bekay: It comes and goes in waves. There's over hiring at periods of time, and then as the economic cycles change, you find that you've made too many offers at campuses. And then you go easy on that. If you go back and look at historical data, you'll find that this has happened more than once. So it's not something beyond the talent pool for the GCCs comes, obviously from the service industry itself as one big source. There is no denying that they are able to, oftentimes pay better give a better work environment, in some cases, give global opportunities to their employees and things like that. And therefore there will be people, and maybe people who are key people in service sector, in the IT service industry, who shift over. That's quite natural. The churn within GCCs and captives, as we call them, in terms of percentage of attrition is much lower than that of the average service industry attrition rate, as we know, and the reasons are these. I think it's a better work environment combined with better pay, in a way it will all pan out. So if people are there are less offers in service companies, there are more offers on the GCCs who are picking up the slack.
Govindraj Ethiraj: Okay, so let me pick on two of the things that your report talks about. So one is the reason why India's is a destination. So there's cost efficiency, which majority of the respondents say, talent pool, which is logical. Then there's IP protection on one hand, on the other hand, the challenges are culture and communication, which, in your study, it's almost 84% compliance, infrastructure, and then security, that cyber security and so on. So if I were to ask you to pick one, the one challenge and the one, let's say, opportunity, what would they be for the growth of the GCC industry?
Jawahar Bekay: So the opportunity clearly is that you they many GCCs come in with one or two programs in mind, and will soon realize that there are many, many things that they can achieve with a long term vision within the country, long term, when I say it includes investing in people, investing. In like the service industry did, right? We went out, went to the colleges, took freshers, groomed them, spent six months training engineering grads on how to code before we put them onto programs. So much of investment went into that. The GCS came in and just did a lot of lateral hiring. But now the ones that have stayed and are looking at long term, are also looking at similar programs, etc, to establish themselves. New maturity model for GIC would be Captivate talk office. 1.0 2.0 3.0 where you move from a command and control model, which is the initial historical model that most GCCs came in with to a more collaborative model to ultimately setting up centers of excellence. While setting up these centers of excellence, obviously these COEs then become global hubs for whatever capability that they are working on or building. And that is the opportunity that many of the GCCs are realizing that they could see. The second being that it's not that you come here for the talent to get your work done alone. You can nurture talent that can be available to you globally over a period of time, right? And there are quite a few examples of senior executives who got global roles over a period of time in larger organizations which are otherwise facing global talent shortage. Those are a lot of the things on that side in terms of the challenges or the key focus areas, as we would like to put it, it's interesting that Culture and Communications came out right on top. It's also not surprising, right? Because the cultures are different, especially if you look at European countries versus Indian ethos. And how do you blend the two? Very often, people have come in with the mandate that, look, you must understand my culture. But the reverse is also true. You need to understand the local culture as much, and there are now, over a period of time, many successful programs to do this cross cultural orientation and understanding. And those that don't do it will face the pressure of finding that the GIC is not growing the way that they should. So I'm not very surprised at cross cultural and community and communication too. How do you communicate? It's interesting, right? If you look at organizations overseas, they're very flat in structure. If you look at organizations in India, they're very layered, because people, young people, like to see hierarchy. They like to see themselves being progressed and promoted every ever so often. So how do you marry the two? If you don't do that, well, you can again, potentially end up in situation at a later stage which you can't handle. So I'm not surprised.
Govindraj Ethiraj: A couple of last questions. So one is, what's the pipeline like right now? What kind of companies are you seeing come in right now? That's in middle of 2024, where we are. I'm talking about new investments. The second is, if I were to ask you for, let's say, one or two instances of GCCs, who you think have been very successful in India in all the ways that your report talks about, you know, they've managed culture, they've managed compliance, infrastructure, cost, talent, everything, and they've got truly integrated so what would you suggest?
Jawahar Bekay: Yeah, there are many names. So I wouldn't want to name call out one or two. I think there are many successful stories and which have been published, available in public domain. And what they've done right are, if you really look back at the key focus areas that the report talks about, they have done right by most of those areas. And I think that's what has enabled them to be successful and and to be able to grow leadership, for example, is another one that was called out. The maturing leadership today is a welcome sign, because in the earlier days, it was hard pressed to find leaders who could switch off from a service industry mode and switch on to a GCC mode, where leadership requirements are very, very different.
Govindraj Ethiraj: What's the pipeline that you're seeing right now? Yeah, in terms of newer investments coming in.
Jawahar Bekay: Frankly, our focus as a company, because we spend a lot of time in this space, are is with mid sized companies, companies which are some two, 3 billion or dollars kind of size, but we are seeing and hearing traction across all segments, not just the ones that we are focusing on. And it's interesting that even smaller companies are looking at opportunity to, even if it is, mean setting up a small team of couple of 100 people. They're seeing value in it, I think, this whole movement of to Gen AI, artificial intelligence, etc, people are looking for talent now across the globe. Also, what's happened is, because of the effects of covid, one of the outcomes that we've all realized is that it doesn't matter where talent is sitting, because you're not sitting in the office anymore, right? Because for a couple of years, India showed that nobody needs to be in office. Your work will get done. So that is any another important facet that is enabling more and more companies to come and we are seeing, it's hard to say what industry we seeing engineering. We're seeing back office requirements, seeing insurance companies that haven't come in here yet, telecom companies, the works,
Govindraj Ethiraj: Jawahar. Thank you so much for joining me.
Jawahar Bekay: Hey, you're welcome.
