Iran war is an economic disaster for India

The geopolitical convulsion in Iran has led to panic buying in Brent crude as Saudi Arabia’s largest refinery Ras Tanura and Qatar’s LNG mega complex at Ras Laffan shut production even as tanker traffic in the Straits of Hormuz comes to a halt amid soaring war risk, insurance premia, IRGC attacks on oil tankers and a 3X spike in VLCC/LNG freight costs. This is a disaster for India, the world’s third largest crude oil importer at 5-MBD, of which no less than 2.6-MBD originates from the Gulf states and Iran via the Straits of Hormuz maritime choke point.

A protracted war in the skies above Iran or a blockade of Hormuz would have a disastrous impact on India’s current account deficit and set the stage for the Indian rupee, the worst performing currency in Asia despite Modi’s (56 inch) chest beating propaganda to inexorably depreciate to 100 against King Dollar, the planet’s resurgent FX safe haven. Higher inflation in India amid a widening current account deficit at fiscal pressures would ignite capital outflows from Dalal Street in Asia’s most expensive stock market.

The GCC is the destination for 15% of Indian exports and its entrepôt Dubai is the transshipment hub for Indian exports to Europe and Asia. The 10 million Indian workers in the GCC also account for 40% of $135 billion in global remittances it attracted last year. The UAE is a favourite destination for India’s financial elite and the Iran crisis has exposed its vulnerability to drone and missile attack on its airport, seaports, five star hotels and luxury villa enclaves on man made islands in the Gulf.

There are 3.8 million Indians living, working in the UAE, which is also the second largest market after the US for Indian electronics exports. The end of the Dubai property bubble and the escalation of US-Israeli aerial attacks on Iran are thus a financial, trade, diplomatic and human disaster for the Indian diaspora.

India’s high-net worth elite will increasingly favour Singapore/Hong Kong, Switzerland and even Malta as safer hubs for their offshore nest eggs than the UAE, Bahrain or Qatar since geopolitical and logistics risk in the Gulf have just skyrocketed.

The Indian rupee has fallen 10% against the US dollar in the past 2-years. The Indian rupee was 58 when Modi was first elected prime minister in May 2014 and has now fallen to 92, a horrific 48% depreciation in a decade when the BJP supposedly delivered an economic miracle. This 48% fall in the Indian rupee since 2014 is one reason why so many Arab ultra high net worth family offices I know in the Gulf refuse to invest in Indian private equity apart from the usual complaints of dodgy sponsors, manipulated IPOs, high taxation, onerous bureaucracy and politicised securities regulator. All these trends will be magnified by the Iran crisis and inevitable fallout on the Indian rupee, inflation, current account deficit and a steeper INR yield curve.

The Iran crisis’s endgame could well be $100 Brent and a plunge in cross border trade and private investment flows that could presage a global recession even as inflation and interest rates surge in India. The volatile geopolitics of the Middle East will only amplify the traditional Indian investor penchant towards hard assets such as gold and silver over financial assets like equities, G-Secs, corporate bonds, mutual funds and private equity.

The anti-rupee phobia of long term Indian HNW investors in the Gulf will be reinforced by a steeper depreciation path for the INR in the next 3-years. Indian wealth will naturally gravitate to the offshore embrace of King Dollar. The parabolic rise in global gas prices after the closure of Qatar Energy’s LNG complex, the largest in the world, is also a disaster for the Indian fertilizer and crop nutrient market, which is also hostage to the war in the Gulf. Modi could thus face political unrest in the next wave of Indian state elections, particularly in the agricultural heartlands of the Punjab, Haryana and UP.

The loss of Iranian imports and a multi-billion dollar write off in India’s investment on the Chabahar Port in the Gulf means, India is at the mercy of Trump not to impose punitive tariffs on its cheap Russian oil and gas imports.

The sharp rise in the Indian VIX to a 9-month high reflects panic on Dalal Street amid a quest for protection from a Nifty whose downside risk could be a lot more than 25,000 as corporate earnings growth assumptions must now be reevaluated in a grimmer macro/INR zeitgeist.

Hopefully, the return of El Niño will not mean a weak monsoon that will aggravate the fuel price hit to margins and rural demand. The RBI cannot ease in this macro milieu and even a 6.7% G-Sec rate is insufficient to offset the higher inflation risk implicit in $85 Brent crude. My fave short remains the paint sector for obvious reasons, especially since Asian paints is losing market share to Grasim even as input costs soar to wreck margins.