>Risk-Trade Trade-Off (CITI)

■ Indian is a risk trade, but there is a trade-off — Where is India’s place in the ‘Risk Trade’?: Our analysis—using Crude oil as a primary benchmark for risk assets — suggests there are trade-offs, and the following inferences.

■ India’s correlation with ‘Risk assets’ is positive and rising … — India is clearly part of the risk trade: and this correlation has progressively risen from 9% over 15 years to 30% over the last year, and 46% over the last quarter. Over standard time periods, there are only positive correlations; over shorter periods, particularly when crude has risen hard/sharply, there are periods of negative correlation.

■ … But lower than other emerging market equity classes — India’s correlations with ‘risk assets’ (36%) are however lower than those of other emerging markets: MSCI EM (57%), MSCI BRIC (59%), and in line with China (34%). The risk trade thus works for India – but better for other EM benchmarks on the way up (India a defensive amongst EM equities, if the risk trade unwinds). There is fundamental backing to this market behavior: India’s FX, the Fisc and inflation are all meaningfully exposed to rising crude.

■ And correlations turn negative with rapid increases in ‘risk’, and at highs — India’s correlations with ‘risk/crude’ have turned negative in the past with: a) Sharp increases in crude—repeatedly (3/4 times), accompanied by underperformance vs. emerging markets, b) 'High' levels of Crude; Crude above $90 has hurt the market most, in absolute and relative terms. Bottom line: Better emerging equity markets to be in than India when the Risk trade rises sharply, or gets too 'high'.

■ India’s positive correlation with Crude higher than with other commodities — Interestingly, India’s positive correlation with crude is higher than with a broader commodity basket: CRB index (with a 41% weighting of soft commodities), but the CRB Index is possibly not the best reflection of the risk trade (up 41% in the last 12 months, vs. ~80% for crude), and is thus probably statistically not relevant.

■ India is part of the risk trade, not ‘the’ risk trade — Play India for India and some risk, not for risk alone (or too much risk). We detail correlations and performance trends across a range of Equity/commodity classes, and time periods, in this note.

To read the full report: INDIA STRATEGY