was also affected by MSCI rebalancing; RBI may go for a +0.35% hike on 7th December
India’s benchmark stock index Nifty scaled a new lifetime high of 18886.70 amid positive cues from Wall Street on hopes & hopes of slower Fed hikes. Overall risk trade got a boost on less hawkish Fed talks and minutes. The market is now expecting Fed will hike ‘smaller’ +50 bps on 14th December to +4.50% and then another 50-100 bps by Mar’23 to 5.00-5.50% depending upon the actual core inflation trajectory.
The market is now celebrating that from December; Fed may continue to hike at ‘smaller’ +50 bps instead of ‘jumbo’ +75 bps and may take a pause after Mar’23. Wall Street is being boosted by lower USD/US bond yields, positive for export-oriented U.S. MNCs, interest-sensitive sectors, banks & financials (bond yield steepening), and also techs.
India’s Dalal Street is also dancing to the tune of Wall Street and hopes for similar RBI hikes. The Indian market was also buoyed by upbeat real GDP for Q2FY23, showing yearly growth of +6.35% and sequential +3.58% (against -9.64% sequential in Q1FY23). Also, India’s Composite PMI came better than expected.
Indian stock market was also boosted by MSCI rejig inflow boost for around Rs.47.35B (rebalancing). Tube Investment, Indian Hotels (NS: IHTL ), Varun Beverages, TVS Motor, Bajaj Holdings, and ABB India (NS: ABB ) were among the stocks that were included in MSCI Global Standard Index; Zomato (NS: ZOMT ) saw an increase in weight. Meanwhile, 20 stocks saw a reduction in their weight in the index that included Infosys (NS: INFY ), ICICI Bank (NS: ICBK ), HDFC (NS: HDFC ), TCS (NS: TCS ), HCL Tech (NS: HCLT ), SBI (NS: SBI ), ITC, Maruti Suzuki (NS: MRTI ), and Kotak Mahindra Bank (NS: KTKM ). With a huge last-day investment (mostly related to MSCI inflow), the total FII investment during November rose to Rs 225.46B, helping Dalal Street to scale a new lifetime high. While FIIs were busy buying, DIIs sold almost Rs.6.30B in November.
Nifty jumped almost +4% in November –boosted by banks & financials, metals, techs/ITs, media, realty, infra, FMCG, and energy, while dragged by pharma and auto. RIL helped lower the windfall tax policy by the government. On Friday, the Indian market stumbled; underperforming global cues as several key blue chips undergo a reduction in their weight in the MSCI index as noted above. Dalal Street was boosted by media, realty, metal (China reopening optimism), and PSU bank, while dragged by automobiles, energy, FMCG, pharma, techs/ITs, and infra. Nifty was dragged by INFY, ICICI Bank, HDFC Duo, HUL, TCS, M&M (NS: MAHM ), and L&T (NS: LART ). Nifty was helped by Tata Steel (NS: TISC ), Apollo Hospital, TECHM (NS: TEML ) and Grasim (NS: GRAS ).
Wall Street stumbled this week on better-than-expected U.S. NFP job report and ISM service PMI, which may pave the way for further rate hikes by Fed in 2023. The U.S. economy is now slowing down. But the U.S. employment is still almost at Fed’s maximum level despite some cooling, while inflation (core CPI/PCE) is still substantially above the Fed’s price stability target of +2.00% without any meaningful sign of cooling.
Thus Fed is now preparing the market for a real positive rate, at least wrt average core inflation (CPI/PCE) of +5.50%. Fed is now preparing the market for a slower rate of increase, but higher for longer. Fed will now focus on an appropriate terminal rate, restrictive enough (real positive) to bring down inflation towards the +2% target over the medium term. When the cost of borrowing turns real positive or there is an elevated cost of capital, overall economic activity/demand bounds to slow down, leading to lower inflation (as lower demand will try to catch up with the constrained supply capacity of the economy). Also, a real positive rate would encourage savings than spending, negative for inflation.
The market is now expecting Fed will hike +50 bps on 14th December to +4.50% and then another 50-100 bps by Mar’23 to 5.00-5.50% depending upon the actual core inflation trajectory. Fed is now preparing the market for a possible series of smaller hikes (50 bps) and pauses down the road after reaching around +5.50%. But Fed is also confused about levels of an appropriate terminal rate and may start the debate in the December meeting to take a firm decision with a fresh SEP. Fed may go from meeting-to-meeting to a QTR-to-QTR approach in 2023 after Q1 ( if required further hikes).
Fed may keep the terminal rate around +5.50% for at least 2023 to bring down core PCE inflation back to +2.00% on a sustainable basis. As the U.S. labor market and inflation are still substantially hot despite some signs of cooling, Fed will continue to hike at a slower pace at +50 bps in December, February, and March for a terminal rate of +5.50% by Q1CY23. Now from Wall Street to Dalal Street, India’s RBI may hike +0.35% on 7th December, followed by +0.25% on 8th February and further +0.25% in April’23 for a terminal rate +6.75% against Fed’s +5.50%. India’s core CPI continues to be sticky around +6.00% and thus RBI wants to ensure a real positive rate, wrt at least core inflation.
Thus RBI will continue to tighten to keep interest rate/bond yield differential and also USDINR under control, which will also control imported inflation and manage overall price stability. RBI has to tighten in a calibrated way to bring inflation down by curtailing demand; i.e. slowing down the economy to some extent without causing an all-out recession for a safe and soft landing.
As per Taylor’s rule, for India:
Recommended policy rate (I) = A+B+(C+D)*(E-B) =0.50+4+ (1.5+0)*(6-4) =0+4+1.5*2=0.50+4+3=7.50%
Here for RBI/India:
A=desired real interest rate=0.50; B= inflation target =4; C= permissible factor from deviation of inflation target=1.5 (6/4); D= permissible factor from deviation of output target from potential=0; E= average core CPI=6
Looking ahead, whatever may be the narrative, technically Nifty Future now has to sustain over 18850-900 for a further rally towards 19150; otherwise sustaining below 18800-600, Nifty Future may again fall to 17800/600-500/400-150 and lower levels in the coming days.
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