Decoding how US Fed rate hike will impact Indian markets: Rahul Bhuskute

2 months ago 38

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“The impact on Indian markets is likely to be more indirect with the Indian indexes reacting to downward movement in the US and other markets on account of Fed tightening,” says Rahul Bhuskute, CIO, Bharti AXA Life Insurance.

In an interview with ETMarkets, Bhuskute who has over 2 decades of experience said: “The markets could see a bout of short-term profit booking, however, this will remain a Buy on Dips market, given strong fundamentals over the next 2-3 years” Edited excerpts:

What is your view on US Fed policy meeting? What is the central bank trying to achieve?
I think the Fed is basically trying to achieve two objectives – the first one is obviously to tame the persistently high inflation, the magnitude of which appears to be much more than the earlier expectations of the Fed.

It is not just combating the current inflation but also the future ones by ensuring inflation expectations don’t get entrenched.

To that extent, unless the US Fed is confident of achieving its stated objective of 2% inflation, it will continue both its rate hike cycle and also its quantitative tightening (“QT”) programme.

The second objective that I think is that the US Fed has been trying to achieve especially over the last 2 – 3 policies is to communicate to the market that times are tough and therefore, to remove expectations of rate cuts or easing of monetary conditions anytime soon.

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How will the US Fed rate hike impact India?
In terms of India, any aggressive US Fed action will have direct and indirect consequences for our markets.

The first impact is on the currency, and this is important for RBI’s main objective of maintaining macro stability.

The Fed hike cycle has been ahead of RBI cycle and the US rates have gone up much faster than Indian ones. As such there would be continued depreciative pressure on the Indian rupee in case of dollar strength emanating from Fed policy.

While many quarters have been celebrating the relative strength of the rupee to those of EM peers, please note that this has come on the back of a net spend of around $100 billion of forex reserves (and possibly gross of around $130 – 150 billion).

With forex reserves covering only 9 months of imports (vs the 19 months at the start of the Fed hike cycle), RBI vigilance is in order to ensure exchange rate stability.

The other pressure valve for the debt markets are the rates. Yields have tightened in the Indian markets on account of lowering oil prices and index inclusion narrative.

Basically, the RBI will continue to find it difficult to manage both interest and exchange rates and might have to let go of one of these.

In terms of equity markets, the impact is likely to be more indirect with the Indian indexes reacting to downward movement in the US and other markets on account of Fed tightening.

Any risk-off environment will affect Indian markets too and the recent “decouple” narrative might be severely tested.

Do you see further tightening by RBI and will that derail momentum on D-St?
Yes, we believe it will be premature for RBI to take any pause at this juncture. August inflation print of 7.0% is much higher than the mandate given to MPC to keep inflation in the range of 2.0%-6.0%.

On top of it, Sep’22 inflation is likewise projected to stay above 7.0%. If we look at the core inflation, it continues to remain sticky at around 6.0%.

While the recent fall in crude oil prices is likely to provide some respite, uneven rain distribution and increase in services consumption can continue to put inflationary pressure on food and services in the near term.

Dollar strength and the continued bleeding of forex reserves to protect INR stability also means RBI is under pressure.

The equity markets are not fully pricing in the rate hike cycle of the RBI. As inflation remains stubbornly high and above the level that the RBI is comfortable with, this could have a near-term impact on market returns.

Mutual Fund data is encouraging when it comes to equity funds but the pace seems to be slowing down. More money is moving towards debt – why are investors putting money in safe haven?
Equity mutual funds are still wit...

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