The year 2020 will be go down in history as one of the most difficult years of this era. It will be remembered for the Covid-19 pandemic, the consequent lockdowns and the loss of so many lives. In combating the ill effects of the pandemic Central Banks rode to the rescue even before scientists could develop a vaccine to combat Covid-19. The provision of liquidity in abundance kept the system running through some very difficult times.

However, in hindsight, they seemed to have overplayed that hand and overstayed that role. The inflation surge and the subsequent shock to the system, due to the Russia-Ukraine conflict, have now caused most central banks to abruptly change course and slam hard on the brakes.

The US Federal Reserve delivered another 75-basis point rate hike last month, taking the cumulative rate hikes to 300bps this year. And, they are far from being done! My belief is that a few developed central banks now wish they could have timed their exit from the ‘easy money regime’ better. I suggest they take a page out of tennis legend Roger Federer’s book of perfect timing. The world paused to watch him play his last competitive match. As everyone cheered for him and bid him an emotional farewell, even his fiercest of rivals were left teary-eyed. No such luck for central bankers though — with economies and markets in turmoil — as they try to exit their policy regime.

The Bank of England finds itself in a particularly difficult situation. Their determination to hike rates and reduce the size of its balance sheet encountered a countervailing and unexpected shock as fiscal policy turned accommodative with a massive tax cut. The Bank of England was forced back into the market as a buyer of bonds in the last week of September. According to Reuters, the turmoil in the bond market is said to have caused a liquidity and collateral crisis for pension funds.

This is troubling for a simple reason: the issue is no longer limited to the impact of rate hikes on the economy, but we now face the risk of liquidity and collateral shocks for financial market participants. In an era of cheap money, leverage made financial logic to investors looking to soup-up their returns. Now, borrowers must take a hard call since they have to roll over their borrowings at sharply higher yields. Borrowers also face potential liquidity/collateral cash calls on leveraged asset positions.

At the time of writing this report, the UK government made a swift reversal on one of its most contentious proposals that would have otherwise led to tax cut for the country’s highest earners.

While 2020 experienced an exogenous shock in the form of the Covid-19 virus, to which policy makers responded with fiscal and monetary support, the Russia-Ukraine conflict in 2022 led to an energy crisis, even as policy makers pivoted to tackle the fallout of their earlier policies. The subsequent pace of rate hikes by central banks has now raised the risk of an accident. To make matters worse, various parts of the world are grappling with a food crisis. A lead indicator of slowing demand is the trend in freight rates. The cost of sending freight from Asia to the US has now fallen by 85% since the same time last year.

The Impact on India’s Economy

The Monitory Policy Committee of India (MPC) hiked rates by a further 50bps in September, bringing the cumulative rate hikes to 190bps for this year. If the shift in the effective policy rate is taken into consideration, the overall increase amounts to 255bps. Thankfully, the RBI has been withdrawing liquidity for nearly a year now and hence, irrespective of an inflation challenge, it is milder than the challenges being faced by the central banks in the US and Europe.

The RBI governor alluded to this challenge when indicating the data driven nature of their decision- making in the current environment. You can read more about the monetary policy tight rope here.

This week, the government announced its intention to continue its flagship food support programme till December 2022. This has been the mainstay of the fiscal response to the pandemic. The government is walking a fiscal tightrope, as this has increased expense, in addition to the increased fertiliser subsidies and losses being borne by oil companies.

The good news is that despite the surge in government spending on food and fertiliser subsidy this year, the Centre’s fiscal deficit remains under control. The Centre’s fiscal deficit during April-August this year was been reported at 37.1% of BE versus 44.4% of BE at the same point in FY22.

Revival in consumption, high inflation rate, partial impact of the rate hike decisions taken in the 47th GST Council meeting, along with an improvement in compliance, has bolstered GST revenues. The GST collection remained more than Rs 1.4 trillion for six months in a row, translating into growth of 36.4% in FY23 YTD versus 29.7% during the same time last year. Corporate and income tax collections respectively grew at a 23.6% and 33.2% during the first five months of this fiscal year, versus the pre-pandemic five-year average of 8.8% and 16.4%, respectively.

Consolidation among firms, declining share of the informal sector and demand spurt for the consumption-oriented sector post-Covid have led to consistent improvement in direct tax collection. The buoyancy in revenues may enable the government to carry out a delicate balancing act on the fiscal tightrope.

Due to the drop in the Nifty-50 in September; valuations have cooled off from the upper reaches of the comfort zone, it continues to remain above the long-term average. We are cognizant of the rising risk in the financial system and in the context of valuations and risk, investors would be best advised to stick to a gradual approach.

Faith in our Investing Process

I attended a webinar this week, where I had to respond to a question about our portfolio turnover ratios, which are lower than the industry averages. I wish to reiterate that we do not have a target for turnover. If our portfolio turnover is low, it is because of our discipline and adherence to investment processes.

Simple arithmetic can prove that high portfolio turnover could impact performance, in terms of impact cost, which includes transactions cost. The pre-condition for a high-churn strategy to work is for one to consistently spot turning points. If I could predict when macro winds would change and hence swiftly move my positions without much impact cost, I may have had a different approach to portfolio churn.

My 30 years of experience has made me better aware of my limitations and my strengths. I choose to stick to what I believe works best for us i.e., to be guided by our investment process Score Alpha and that discipline has a dampening effect on portfolio churn. As regards the ability to identify turning points and trade accordingly, there could be others more gifted than I am. I admire their skill and prowess in managing high churn strategies. We prefer to put our faith in our investing processes that have worked well for us over cycles and is our compass during good times and difficult times.

Annual Portfolio Turnover Ratio (PTR) of Key Funds:

Data as of September 30, 2022

Product Label:

Name of the Scheme	This product is suitable for investors who are seeking*	Riskometer
UTI Mastershare Unit Scheme (An open ended equity scheme predominantly investing in large cap stocks)	Long term capital appreciation Investment predominantly in equity instruments of large cap companies
UTI Core Equity Fund (An open ended equity scheme investing in both large cap and mid cap stocks)	Long term capital appreciation Investment predominantly in equity instruments of both large cap and mid cap companies
UTI Mid Cap Fund (Mid Cap Fund- An open ended equity scheme predominantly investing in mid cap stocks)	Long term capital appreciation Investment predominantly in mid cap companies
UTI Value Opportunities Fund (An open ended equity scheme following a value investment strategy)	Long term capital appreciation Investment in equity instruments following a value investment strategy across the market capitalization spectrum
UTI Flexi Cap Fund (Flexi Cap Fund- An open ended dynamic equity scheme investing across large cap, mid cap, small cap stocks)	Long term capital appreciation Investment in equity instruments of companies with good growth prospects across the market capitalization spectrum
UTI Small Cap Fund Small Cap Fund (An open ended equity scheme predominantly investing in small cap stocks)	Long term capital appreciation Investment in equity instruments of companies with good growth prospects across the market capitalization spectrum
UTI Focused Equity Fund (Focused Fund- An open ended equity scheme investing in maximum 30 stocks across market caps)	Long term capital appreciation Investment in equity instruments of companies with good growth prospects across the market capitalization spectrum Long term capital appreciation • Investment in equity instruments of companies with good growth prospects across the market capitalization spectrum
UTI Long Term Equity Fund (Tax Saving) (An open ended equity linked saving scheme with a statutory lock in of 3 years and tax benefit)	Long term capital appreciation Investment in equity instruments of companies with good growth prospects across the market capitalization spectrum

Above commentary is published in UTI Fund Watch (monthly factsheet) in the section of Update from CIO’s Desk, click here to refer to the factsheet.