On Episode 892 of The Core Report, financial journalist Govindraj Ethiraj talks to Rajani Sinha, Chief Economist at CareEdge Ratings. We also feature an excerpt from our Special Edition interview featuring Aoifinn Devitt, Managing Director - Global Wealth at Moneta.

SHOW NOTES

(00:00) Stories of the Day

(00:50) Markets speculate on incentives for foreign portfolio investors

(05:35) What the RBI is balancing as it takes a call on interest rates

(14:22) Tariff wars are back, should India give into pressure tactics?

(16:50) Why global investors are chasing AI stocks, a view from the other side

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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 regarding any feedback, you can drop us a message on feedback@thecore.in.

Good morning, it's Thursday the 4th of June and this is Govindraj Ethiraj broadcasting and streaming weekdays from Mumbai, India's financial capital, just experiencing small bouts of rain, but we are obviously waiting for the real thing which should come in a week or so.

Our top stories and themes…

The stock markets are speculating on incentives for foreign portfolio investors

Tariff wars are back, should India give in to pressure tactics

What the Reserve Bank of India is balancing as it takes a call on interest rates

Why global investors are chasing AI stocks and a view from the other side.

Markets, The War, Rupee and Mythos

The stock markets on Wednesday turned around after falling earlier in the day following speculation that the government may unveil measures to make investments in Indian bonds more attractive to foreign portfolio investors.

Elsewhere, flights at Kuwait International Airport were suspended after an Iranian drone and missile attack damaged airport facilities and diplomatic missions, killing one and injuring more than 60, according to Kuwaiti authorities and state media. The Civil Aviation Authority said Kuwait Airways was resuming flights from Terminal 4 after evaluating damage and taking safety measures. Back here, a sharp fall in IT stocks after a recent Nvidia founder Jensen Wang statement triggered rally and rising oil prices thanks to those attacks kept markets in the negative territory.

Brent crude prices were now touching about $99 once again, a barrel on Wednesday, as diplomatic efforts between Washington and Tehran seem to have broken down for now. Sticking to crude, early reports suggest that fuel sales are slowing in India, though still growing. Of course, this suggests that despite the price hikes of 7.5 rupees per litre of diesel and petrol, consumption is still rising.

But for this, we'll have to see figures for the month of June so as to get a full picture or a better picture on how consumption is In the markets, the Nifty 50 and the Sensex recovered from their day's low, with the Nifty 50 ending 77 points down at 23,405 and the Sensex down 303 points to 74,346. The broader markets were also down, the Nifty mid cap was down 0.4 and the Nifty small cap was down 0.1. Meanwhile, the government has approved a 10,000 crore rupee fuel stabilisation fund to help keep jet fuel prices in check for airlines hit by costs from the Iran war that have been rising. The government said the support would be provided as interest-free advances to oil marketing companies to cover the under-recoveries, the gap between market-linked jet fuel prices and the moderated rates charged to airlines, according to a Reuters report.

Meanwhile, as officials continue to blueprint how to bring in more foreign capital, efforts are also on to stem outflows. Family office overseas investments are coming in for additional scrutiny, according to a Reuters report, which says that at least 10 queries have gone in the last three weeks to determine any potential misuse of that investment route. RBI data says that overseas direct investment rose 11% year-on-year to about $48 billion last year, while individuals sent about $29 billion.

Current rules say that regulated entities must secure sectoral no-objections and file valuation reports with the Reserve Bank of India for overseas direct remittances. Larger or complex deals may also need prior Reserve Bank approval. The Reserve Bank also denied a report that appeared yesterday and also mentioned here in the core report that it had conducted some gold sales last month.

The Reserve Bank of India does not seem to have responded to a clarification sought by Bloomberg ahead of publishing that report, though, which was on Tuesday. Now, there are some questions that crop up on that rebuttal itself, since it appears to withhold some data, but the context for this somewhat terse response is understandable. A sale of gold is viewed in somewhat emotional terms and could be seen as a sign of deeper financial stresses rather than a pure treasury operation, which is what it could or ought to be seen as.

A Bank of America securities executive told Reuters that the rupee could weaken to a record low of 98 against the dollar by July, as the energy shock triggered by the Middle East crisis or the West Asia crisis continues to put pressure on domestic assets, particularly the currency. The rupee is Asia's worst-performing currency this year and is obviously affected by the fact that India imports almost 90% of its crude requirements and half of its gas needs apart from that. Of course, we are seeing heavy outflows.

On Wednesday, the rupee depreciated 31 paise to close at 95 rupees 67 paise. That's provisional against the US dollar. Meanwhile, Ants shopping the company behind Claude AI will expand access to its Mythos AI model to more than 15 countries, including India, which widens the availability of its technology for detecting critical software vulnerabilities.

Antropic will provide access to Mythos to 150 organisations. According to a Financial Times report published on Tuesday, Antropic is positioning the technology as a strategic cybersecurity tool for government's critical infrastructure operators and institutions. It's essentially an artificial intelligence model designed to identify cybersecurity flaws and potential threats before they can be exploited by hackers.

Earlier, Antropic had described Mythos as a potentially serious cybersecurity risk if released without restrictions. It also said when it announced the model's development in April that it would not make it publicly available because the technology was considered too powerful for unrestricted release.

What will inform the RBI’s next moves on Interest rates?

The Reserve Bank's Monetary Policy Committee bimonthly meeting is underway and a policy decision will come tomorrow.

That's the 5th of June. Markets widely expect the Reserve Bank of India to maintain a rate pause with the repo rate at 5.25 percent. That's steady and a neutral stance.

While rates may not change, it's useful to revisit what the Reserve Bank of India could be looking at or balancing in deciding its approach to interstates and thus extending to the larger state of the economy and macro variables at hand. I reached out to Rajani Sinha, Chief Economist at CareEdge Ratings, and I began by asking her what were the factors that she was looking at in the run-up to the upcoming credit policy.

INTERVIEW TRANSCRIPT

Rajani Sinha: So yeah, we are in midst of very uncertain scenario. The main thing is, like we were discussing earlier, we are not aware of as to how this West Asia crisis is going to end and also the point that we don't know in what form it will end. In the sense that even after it ends there would still be uncertainty as to what's going to happen to energy supply going forward.

So all these uncertainties will have an impact on financial markets, on business and consumer sentiments. So that's what we are dealing with. Central bank has a very difficult decision to make because yes, definitely there are inflationary concerns and not just because of West Asia crisis, now there's also this concern around weaker monsoon expected and the implication of that on food prices.

So on the one hand, they have to look into what can be done for inflation and at the same time, even on the growth front, if the West Asia crisis lingers, we would definitely have an impact on growth and the impact could be severe depending on for how long this crisis lingers. So they have to, central bank has this difficult task of balancing inflation as well as taking care of the growth aspect.

Govindraj Ethiraj: Right. And is currency, you think consideration or would it be a consideration in this point?

Rajani Sinha: So yes, currency would also be important, but I think at this point in time, the central bank would focus more on growth and inflation because, you know, looking at interest rate for taking care of currency may not be very fruitful in the sense that, you know, if they look at increasing interest rate, which I am of the view, we feel that it's unlikely to happen in this upcoming MPC meeting. But even if they do, it will not have a significant impact on currency, because if you look at what's happening to our currency, the main concern is the very weak capital flows. This is happening at a time when current account deficit is widening.

But even if we look at the widening, we are expecting current account deficit to widen to around 2.1% of GDP in FY27, which is not very high, you know, compared to what we have seen in the past, in the previous crisis, like the taper tantrum period, the period FY12 to 14, our current account deficit was averaging around 3.6% or so. So we have seen much higher current account deficit. But yes, in the previous crisis period, we have seen better capital flows.

Even if we have seen FII outflows, which happens in all crisis period, but in the previous crisis period, the capital account was supported by stable FDI flows. You know, what differentiates this crisis from the previous crisis is the fact that not only are we seeing strong FII outflows, we also have weak FDI flows on net basis. So as per the latest data, it has improved and on a net basis, FDI is now around $7.7 billion for FY26, which is much better than what we were seeing even a month back. But having said that, in the past annually, we have seen like $30-31 billion of FDI flows on a net basis. So I would say that is what is concerning part. So the central bank should, or I would say is most likely to look more at ways to attract capital flows than to tinker with interest rate to take care of currency volatility.

Govindraj Ethiraj: And when you say central bank should look at that, what could a central bank do specifically in this case?

Rajani Sinha: So what are the ways in which you can further liberalise capital flows into the economy? Look at those options, you know, forex swap options. Yes, they've already been doing that and we may see more of that.

They should even look at reducing the capital gains tax on FII. That doesn't come under the purview of RBI, but broadly I'm saying that's also something which is a requirement. Because we know that it's unlikely that now the government or the central bank will look at reducing or stopping the capital flows from India.

So it's unlikely that they look at curtailing that. What they're going to look at is attracting more inflows into the country, which also makes more sense. So I think those are the routes which they are likely to take to handle the currency aspect.

Govindraj Ethiraj: Right. You talked about drains or the deficiency of them and we're also looking at higher fuel prices, which we don't know whether we'll see more increases in the immediate future, but they've definitely been increased already by seven and a half rupees for petrol and diesel. So how are you seeing the downstream impact of that?

And that's one and overall transmission of the energy shock so far.

Rajani Sinha: So overall on inflation, we are looking at the impact of this retail fuel price increase. At direct impact, we estimate at around 35 basis point. There'll also be indirect impact of around 15 to 20 basis point.

So overall for the year, for FY27, we expect average inflation to be higher than what RBI has given a 4.6 percent. Now we are of the view that inflation is likely to average higher at around 4.6 to 5 percent. So that's on the inflation part.

El Nino and poor monsoon and impact of that on growth. In fact, we are of the view that while definitely poor monsoon will have an impact on rural economy and rural demand and on growth. But broadly, if you see over a period of time, last few years, the impact of poor monsoon on the economy slowly is becoming relatively less because, you know, irrigation facilities are improving.

If you look at overall agriculture sector, the share of some of the apart from crop production share of the other segments, like livestock, fishery, horticulture, those are increasing, resulting in the dependence of the rural economy on agriculture and specifically on monsoon relatively reducing. Hence, we do not see a very significant impact, severe impact of that on growth. But having said that, yes, growth will be impacted by the West Asia crisis that is more concerning and the impact of that on raw material prices and also even supply of some of the raw materials could get impacted, as we have seen in the past.

So on the growth front, we have lowered projection to around for FY27 to 6.7%. That is assuming that the crisis comes to an end soon and assuming Brent prices average around $90 per barrel for the full year. But in case the crisis lingers and the crude oil prices remain higher, then the impact could be much more severe. So in fact, if it stays, if it averages around $110, we could see growth falling to around 6% or so and it could even dip further lower than 6% if crude oil prices remain higher than $110 also.

So we have worked around different scenarios because it's very difficult to say, you know, in what phase of the crisis we are. You never know, it can again aggravate and things could worsen from here.

Govindraj Ethiraj: Yeah, as it happened on Wednesday morning with fresh missile attacks on both sides.

Rajani Sinha: Absolutely.

Govindraj Ethiraj: Right. Rajani, thank you so much for joining me.

Rajani Sinha: Thank you.

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State Bank of India Chairman C. S. Setty on Wednesday said that a pause in policy rates by the Reserve Bank's Monetary Policy Committee will help stabilise conditions and support economic growth.

Speaking at a Citi India conference in Mumbai and reported by Business Standard, he said that the market expects there could be a rate pause at this juncture. Inflation dynamics remain important. He also urged investors to look beyond short-term movements in the equity markets and focus on India's structural transformation driven by reforms in banking, digital infrastructure, financial inclusion, and infrastructure creation.

Do not look only at the cents he said, look at India as a long-term story.

Why Should India Challenge the Legal Basis for US Import Tariffs?

India should challenge the legal basis of new tariffs proposed by the United States of at least 10% on imports from close to 60 trading partners in President Donald Trump's latest move to rebuild his tariff walls since his earlier levies were struck down by the Supreme Court. A note from Ajay Srivastava of the Global Trade Research Institute says India can argue that the investigation exceeds the scope of Section 301, which traditionally addresses market access barriers faced by U.S. firms rather than a country's import control policies.

As a background, the additional Section 301 tariffs are of up to 12.5% on imports from 54 economies, including India, over forced labour-related concerns. According to GTRI, the investigation is not based on allegations that Indian exports used forced labour but on whether India restricts imports linked to forced labour in third countries. The proposals are still under consultation and public hearings are scheduled for early July.

GTRI says that it sees growing pressure on the bilateral trade agreement talks between India and the U.S. and that proposed tariffs are viewed as part of broader U.S. pressure tactics and India should treat Section 301 actions and the U.S.-India BTA negotiations separately while reassessing the benefits of the proposed agreement.

How will India Remain Competitive in the EV Market?

And some automotive news. In keeping with the renewed thrust on EVs and the demand for them, Tata Motors will use an automaking platform from Cherry, the Chinese company, to locally build electric cars under its premium Avenia brand, underscoring the dependence on Chinese technology after its original plan with Jaguar Land Rover, which it owns, was shelved, according to a Reuters report.

Tata told Reuters in a statement it will leverage the freelander platform produced in a JV between Cherry and Jaguar Land Rover in China, with the cars being manufactured at its newly opened factory in Tamil Nadu. Chinese carmakers are largely shut out of India, which is the world's third largest auto market, but the technology is becoming hard to avoid as local manufacturers lean on it to stay competitive in the global EV race, according to that Reuters report. The first Avenia model on Cherry's platform is due in 2027, will be shipped from China as a kit and assembled in India.

Why are global investors chasing AI stocks?

First Taiwan and now South Korea have overtaken India in market capitalisation, a continuing indicator of the AI frenzy that's driving stocks and values up in many parts of the world. Three Asian companies are now in the $1 trillion market capitalisation club. They include Taiwan Semiconductor, or TSMC, Samsung Electronics, and SK Hynix.

The AI frenzy clearly has legs, but more than that, it has some rationale behind it as well. I spoke with Aoifinn Devitt, Managing Director of Moneta Global Wealth, which manages over $40 billion out of the United States and has been investing quite steadily in AI stocks. I began by asking Aoifinn what really is happening in AI investing from her perspective, not just in the United States, but also in the rest of the world.

INTERVIEW TRANSCRIPT

Aoifinn Devitt: Yeah, I think there are two things working here. The first one, we have seen a desire to rotate because regardless of what your view is on AI, there was no question that the concentration in the Mag7 and them as a play on AI was getting way too concentrated for many investors to bear. So they have been looking at ways of diversifying that, and that may have been diversifying away from the US.

It may have been diversifying into adjacent areas such as the infrastructure. So this is where the semiconductors, I think the frenzy has come in. It has been a really a following the money trade in terms of where is the capex from the hyperscalers going clearly into the picks and shovels.

So that has been behind the trend in all semiconductor stocks. And then looking outside the US and looking for plays on the same team, that's where it really has driven the Asian story. And it is very remarkable that the entire story of the outperformance of emerging markets versus the US markets recently has been the story of these three stocks.

So I'd say it's both a desire to diversify away from the hyperscalers, as well as the desire to diversify outside US stocks. Do I think it's business as usual? No, I think this is part of what was described by the CFO of OpenAI, Sarah Fryer, as a perception of a vertical wall of demand for compute.

I think we're seeing some chips appear in that argument over the course even of the past week.

Govindraj Ethiraj: When you say that the investment is moving away from hyperscalers, for instance, it's all still within the AI universe, isn't it? And how does one qualify that further? So it appears that the bigger investment team continues to be AI, but within AI, people are still looking for alternatives and options, including geographies, which means that the AI proposition in itself is strong or continues to be strong.

Aoifinn Devitt: We see it. Do we agree that it should be as strong? I think that is a bigger question, which we have to think about our hats as medium and long-term investors.

What I have seen, getting back to that theme of following the money. So we want to follow the money from the hyperscalers with their massive CapEx expenditure, none of which I would say is being helped much by many of these headcount cuts. The headcount cuts are a mere drop in the ocean in terms of savings versus the CapEx need.

So they clearly have a need to continue to raise financing and make that spend at least at the current levels. So we would say that that should bode well for financials because the financials are in good shape themselves and can be seen as a vehicle to allow this capital to be raised, but they're down 5% year to date. So we see that as a good adjacent trade, but yet it's not performing.

We also see energy as a good adjacent trade, has been performing, not to the same degree, but has been performing. Some of it distorted by the current oil price and war, but we do know based on Wesson Jensen Wang's suggestion that we were going to need a thousand times the energy that we're currently consuming, that the demand for energy will also be a vertical wall of demand. So those are all adjacent areas that have not really picked up steam.

And you asked if they're all related to AI. To a degree, AI has been the pillar on which the global economy now has been balancing. I say a little precariously because they do need to also look at the other fundamentals in their economies, but AI has been the saving grace.

Govindraj Ethiraj: Right, and when you say saving grace, I mean, if you take Korea as an example, where the entire index is really one company or a bunch of companies, or Taiwan where it's really one company. So isn't it more than just a saving grace? I mean, it's entire complete domination.

Aoifinn Devitt: It is in Asia, and that's why there has to be a lot of caution. I mean, clearly we know that concentration in the U.S. was still an issue, but yet the top 10 represented 40% of the S&P, not the domination that you cite. And equally, you could argue that these hyperscalers are really starting to look like the conglomerates of old.

So they are multiple business lines. They're not one-trick ponies. So even though they're concentrated, they have multiple ways of generating income, and therefore we shouldn't see them as being that concentrated.

I would say, however, though, in Asia, that is the case. And if we even look at how China has been performing and the other sectors like, say, consumer staples, information tech and materials have led the charge, consumer staples, consumer discretionary, absolutely languishing at the bottom. So again, this is overlooking fundamentals because we would say that consumer has legs in China, but clearly investors are not seeing it that way.

Govindraj Ethiraj: What's your sense on valuations at this point? I mean, just to look again at how the indices have been going, just this week, again, we've seen both the S&P 500 as well as the NASDAQ on Tuesday hit record highs, and there is no sign that it's slowing down. So obviously these are the stocks that are driving those indices to their record high.

So what's the valuation argument or what are the valuation arguments looking like?

Aoifinn Devitt: Well, I suppose we always have to look at, well, what's the alternative? And we've spoken before about this idea of TINA, there is no alternative to equities. And certainly with inflation, we shouldn't forget that inflation is nudging upwards and it's becoming a concern.

We also know just until recently this week, when there was a bit of a relief rally, we saw government bonds, very high yields, especially in the longer end versus their recent history. So there was an aversion to duration and to holding bonds. And with this inflation number that I keep mentioning, there is a need to generate growth in a portfolio to overcome the inflation hurdle.

So, and in that way, there has been no alternative to equities recently. And that has been why I think despite these valuations, particularly in the US, which has been pushing pretty high, if we look at the CAPE ratio, we would say that there's still been that underpinning of strong demand, as well as a vast amount in money market funds and liquidity poised to mop that up. So if we look also to compare the equity risk premium of the S&P to bonds, now both are a little distorted because we've seen the bond risk premium really blow out.

There is very little additional excess now of equity risk premium versus bonds, which would suggest that their investors are not being paid to take equity risk. So we are concerned about that. And our recommendation therefore, is rebalancing back to target to trim the excesses because there have been these excesses and a need to rebalance back.

Govindraj Ethiraj: And I just want to come back to the AI rally. Now you've touched upon the memory chip companies, the hyperscalers. What else is happening within the AI rally and is it spreading out further?

And as you look ahead, could it spread out further and to what kinds of companies or opportunities?

Aoifinn Devitt: Well, I think we're looking at the winners and losers clearly. And we aren't speaking about it now, we've moved on to discussing this massive rally in chips and new essentially breakthroughs in terms of market cap. But we shouldn't forget that just at the beginning of the year, there was industry after industry falling.

We talked about the SaaS apocalypse, then the wealth management industry had a hit. We've seen many other industries take a hit, including many service industries. And there was this contagion worry around private credit and financials as a result.

So there is still that sorting of winners and losers going on and some taking the opposite side of the trade, suggesting that this sell-off and software has been overdone. But I think that is clearly still, it's an AI dependent trade, but it is very much still happening. And that is one to watch.

And then just separate from AI altogether, some of these macro forces that have been say, driving employment concerns, the oil price you mentioned has been driving affordability concerns. These are all driving dynamics in the consumer sector, whether it affects discretionary, we know that oil is affecting airlines and other transport support stocks. And we know then that commodities and this demand for say copper and precious minerals, that is likely to really drive that sector.

So definitely AI is causing many of these trends, but there are independent trends also marching along.

Govindraj Ethiraj: Right. And if I can ask you about flows and capital flows and how you are seeing it both into funds like yours and out, and this is a slightly longer frame question. I mean, if you look back one year and then you look ahead, what are the takeaways?

Aoifinn Devitt: Well, I'd say there's a momentum in effect. The AI trade is very much about momentum and many investors are fearful of fighting against momentum because there has been a sense that staying out of the market has been really eroding portfolio value because of what I mentioned, this long arm of inflation, that the kind of long effect of the higher inflation we've seen. So there's definitely a desire not to be out of equities and we can see that we have not seen, we've seen flows into equities and generally not out the other way.

We've seen flows out of bonds. I think we mentioned the yields in longer data government bonds, an aversion to duration, as well as just a concern that bonds will not keep pace. We know the bonds have not looked particularly interesting from a valuation standpoint, and unless there's some reason to be holding a large position in bonds today, such as a risk-off profile, generally we don't see a lot of demand for bonds.

We do see a slowing and almost a stagnation around private credit and private equity. Even though we hear about some very high profile fund launches, for the most part, that is probably the exception. We think of the bell curve, but that we have a very long tail of funds that are not raising a lot of capital and that have not seen the distributions back.

So I don't see a lot of flows in there. I'd say flows into real estate are extremely sluggish and then flows into infrastructure because of this picks and shovels trade, the data centres, the need for energy, and really an insatiable demand for energy. And infrastructure has seen quite decent flows.

Govindraj Ethiraj: Is there any option after the US? If US is number one, what's number two to you or for you?

Aoifinn Devitt: Certainly the US as a percentage of the index is a pretty significant percentage. But in terms of number two, if we look across Europe, Europe hasn't had the most bad run, but it hasn't obviously kept pace. But we have to remember that NAI has also played a lead in European stocks too.

But there are many stocks within the European stocks that are levered to AI or to technology, looking at BE semiconductors, Nokia, STM, microelectronics. These have all done extremely well year to date. So there is an AI trade outside the US.

I think we should not become so blinkered as to think that it's only within the US. But equally, these so-called old economy stock markets also have, whether it's mining or financials or some more core staples, they do have some very strong underpinnings. So I'd say remaining international and diversified, I do believe in having some private market exposure too.

I think it's a critical piece of diversification of that growth piece of a portfolio.

Govindraj Ethiraj: Tell us about what your non-AI portfolio or outlook looks like and what all lies within that.

Aoifinn Devitt: Getting back to that follow the money point, I think we have overlooked just how strong financials are today. If we look at all the stresses that financials potentially have been under, whether that was in the US, primarily the subprime real estate crisis, we had some of the regional banks crisis, we had SVB with a run on that bank. We've seen modern day runs on the bank that can happen far more quickly and easily with electronic requests to redeem.

So these financials have also withstood the private credit, that's apocalypse concern. There's not a sense that they're overly exposed to that. We shouldn't forget that financials really have been so road tested since the great financial crisis.

They're in good shape and they will be needed to provide finance to fund this capex. So financials, despite being down 5% year to date in the S&P are still, I believe, a very solid place to invest right now. I know in India, the financial sector has been considered a stalwart of the stock market there for some time.

So that looks interesting to me. The consumer, I'm more focused on the consumer durables than the discretionary because I really see this K-shaped economy getting acutely worse.