Nifty may again scale around 20K on hopes of Fed/RBI pivot

Positive global cues amid hopes of Fed pivot and targeted Chinese stimulus may also help India’s Dalal Street despite subdued report card for Q1FY24

India’s benchmark stock index Nifty made a multi-week low around 19230 last Friday (25^th August) from life lifetime high of 19992 scaled in mid-July amid negative global cues and a subdued report card for Q1FY24. Wall Street also stumbled on more hawkish than expected Fed action/jawboning and mixed report card. Also, China’s economic slowdown and property market meltdown affected the risk trade sentiment. But both Wall Street and Dalal Street recovered in the last few days on targeted/gradual Chinese stimulus and less hawkish Fed talks even after Fed Chair Powell’s Jackson Hole speech, in which he indicated at least another rate hike, most probably in November.

Overall, after various US economic data on inflation, labor market, GDP, and Fed commentaries, the market is now expecting a Fed pause on 20^th September, but another hike of +25 bps on 1^st November, followed by a long pause at least till June’24 (H1CY24) and rate cuts from July/September’24 (H2CY24), if U.S. core CPI indeed falls durably below +4.0% from present levels of around +5.0% on an average.

RBI continues the hawkish hold stance with an eye on the Fed’s policy action in the rest of 2023

The RBI may want to maintain the present policy rate differential of 1.00% with the Fed depending upon the actual core inflation differential/trajectory. India’s current average of core CPI is around +5.0%. and at a +6.50% repo rate, India’s real rate is now around +1.50%, in a restrictive zone. Thus RBI paused in August but has not pivoted as RBI may want to see actual Fed rate action and SEP on 20^th September and any guidance for the November/December meeting.

As per Taylor’s rule, for India:

Recommended policy repo/interest rate:

(I) = A+B+(C+D)*(E-B) =0.50+4+ (1.5+0)*(5.5-4) =0.50+4+1.5*1.5=0.50+4+2.25=6.75%

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=5.5% (for FY: 23-24)

Thus assuming the estimated average core inflation is around +5.50% in FY: 23-24, the restrictive target of the RBI repo rate may be around +6.75%. If the Fed continues to hike another +25 bps in H2CY23 (even after Sep’23 expected pause) to +5.75% by Dec’23 (in case U.S. core inflation remains sticky/elevated above +5.50%), then RBI also has to hike (under still elevated/sticky core inflation). Thus RBI may also like to keep the repo rate at 6.75% in CY23 (depending upon the Fed rate action and actual Indian core inflation trajectory/outlook).

As USD is the reserve/global currency, every major Central Bank has to follow Fed action to maintain bond yield/currency and policy differential (whatever may be the inflation/growth narrative) to control imported inflation. India’s real rate was around +1.50% in Feb’19 if we consider the then repo rate of +6.50% and the then average core CPI of +5.00%.

Under Governor Das and Modi admin, RBI may prefer to keep the real rate of interest around 1.50%. As India’s core CPI is now averaging around +5.50%, RBI may keep the terminal rate between 6.50%-6.75% in the coming days depending upon the actual Fed rate action and domestic core inflation trajectory. As there are a series of state elections in 2023 and also a general election by May’24, the Modi admin now prefers lower inflation than emphasizing too much on economic growth.

Thus RBI may keep the terminal repo rate around 6.50-6.75% if the Fed does not go beyond +5.75% and India’s core CPI stays around +5.50%. Modi admin/BJP is now quite concerned about general elevated inflation, especially for food and fuel, which cost them the recent Karnataka state election dearly. In his recent speech on 15^th August, India’s PM Modi also emphasized repeatedly on price stability.

Overall, RBI is quite optimistic about India’s GDP growth but is still concerned about elevated sticky core inflation. But RBI is also quite optimistic about maintaining India’s price, financial, and growth stability through its calibrated policy action. As India’s core CPI is still substantially higher than targets, while real GDP growth is almost in line with the potential trend/target, RBI is still open for another calibrated +25 bps rate hike. If the Fed indeed goes for another rate hike in H2CY23 for a repo rate of +5.75%, RBI may go for at least another +25 bps rate hike by Dec’23 for a corresponding repo rate of +6.75%. And if the Fed goes for no further rate hike in H2CY23 for a terminal repo rate of +5.50%, RBI may continue to hold at +6.50% in FY24.

Looking ahead, the Fed may not be in a hurry to cut rates in H1CY24 but may cut rates in H2CY24 (from July’24 onwards, just ahead of the Nov’24 U.S. Presidential election). In his recent speech, RBI Governor Das stressed for longer policy for India too. Thus RBI also may not cut before Aug’24.

In a prepared speech on 23^rd August, RBI Governor Das said:

Indian Economy – The Current Setting

“As a backdrop to the building blocks for future growth, let me turn briefly to the current macroeconomic scenario, starting with the global environment. The global landscape is witnessing major structural changes. The process of globalization has slowed down and is drifting from multilateralism towards bilateralism and geo-economic fragmentation. Friend-shoring and reshoring have become more pronounced. Global supply chains have been under pressure, which along with rising global commodity prices contributed to multi-decadal high inflation in 2022.

The resultant aggressive monetary tightening has dampened the global growth outlook. Tight financial conditions and volatile capital flows are accentuating the impact of the global slowdown on the prospects of emerging and developing economies. Headline inflation is now easing unevenly across countries but remains above the target in major economies. The pace of monetary tightening has been scaled down, but policy rates could stay higher for longer in several countries.

Even as the grim prospects of a hard landing have receded, global growth is likely to remain low by historical standards in the medium term. With increasing climate change risks, the development of climate-friendly technology, new and renewable sources of energy, and sustainable agricultural practices would shape our future. The pace of progress on these fronts needs to be hastened.

Amidst such a volatile world environment, India stands out as the emerging growth engine for the world. India’s real gross domestic product (GDP) recorded a growth of 7.2 percent in 2022-23, surpassing its pre-pandemic level by 10.1 percent. Overall, the conditions are favorable for the growth momentum to continue and the capex cycle to gain momentum in 2023-24. Opportunities are now promising and can be utilized to propel our economy to a higher growth trajectory.

The challenge of high inflation, however, persists and has to be effectively addressed. After reaching a low of 4.3 percent in May 2023, headline inflation has risen to 7.4 percent in July driven by the surge in tomato and other vegetable prices. The July print which was released after the MPC meeting was on the higher side compared to our estimates. Prices of vegetables surged by 37.3 percent (year-on-year), led by an increase of 201.5 percent in tomato prices. Reflecting these drivers, food group inflation more than doubled from 4.7 percent in June to 10.6 percent in July.

On the positive side, inflation excluding food and fuel (core inflation) has softened by around 130 basis points from its recent peak in January 2023. Although it is still elevated at 4.9 percent, this steady easing of core inflation over the last five months is indicative of the ongoing transmission of monetary policy.

Looking ahead, the spike in vegetable prices in July is starting to see a correction, led by tomato prices. New arrivals of tomatoes in mandis are already softening prices, coupled with proactive supply management in the case of onions. We expect to see an appreciable slowdown in vegetable inflation from September. Meanwhile, the prospects for kharif crops have improved, thanks to the progress of the monsoon in July, although the cumulative rainfall has again moved into the deficit territory. The outlook for cereal prices has accordingly brightened, supported by active supply-side interventions.

Sudden weather events, El Niño conditions, and renewed geopolitical tensions, however, impart uncertainty to the food prices outlook. As I noted in my monetary policy statement on August 10, 2023, given the likely short-term nature of the vegetable price shocks, monetary policy can await the dissipation of the first-round effects of such shocks that may produce short-lived spikes in headline inflation.

We will remain on guard to ensure that second-order effects in the form of generalization and persistence are not allowed to take hold. The frequent incidences of recurring food price shocks pose a risk to anchoring inflation expectations, which has been underway since September 2022. We will remain watchful of this also.

The role of continued and timely supply-side interventions assumes criticality in limiting the severity and duration of such shocks. In these circumstances, it is necessary to be watchful of any risk to price stability and act appropriately and in time. We remain firmly focused on aligning inflation to the target of 4.0 percent.”

In India, RBI also thus has to think about cutting from August ’24 onwards to match with the Fed; otherwise, if RBI goes for any pre-emptive cut in April’24, ahead of the Indian general election in May June, then USDINR may scale above 85, which would be a political issue.

But Modi/BJP may also advance the general election in Dec’23 for various political, economic/budget, and weather-related issues. On Tuesday, the Modi admin reduced the price of domestic LPG cylinders by 200/- to bring down the high inflation/cost of living of the general public in a step eye for various state elections and also the early 2024 general election. In the recent Karnataka state election, Modi/BJP lost dearly mainly to high cost of living (inflation) issues, especially involving fuel including edible oil, LPG, and food.

In any way, due to a lack of a credit opposition party/leader and fragmented regional political parties,  this time too PM Modi is set to return with a big margin; the question is whether it’s 300+ or 350+ or 250+ seats against the 2019 verdict of 300+ seats. But growing popularity of various regional opposition political parties including INC at state levels may be an issue for coherent policy implementation of Modi admin across India.

High inflation/cost of living and elevated unemployment/underemployment, especially for youth is a challenge for Modi (some incumbent sentiment), while he is embarking on development and anti-corruption platform. Most of the common people now want Modi’s development and anti-corruption model along with the nationalistic image. Modi is also taking various necessary steps to boost employment and bring down inflation, which is a legacy issue for India, primarily a byproduct of devalued currency, imported inflation, and elevated flow of domestic black money.

Market Wrap:

On Wednesday (30^th August), India’s Nifty closed around 19347 after gaining almost +0.40% in the last few days, but still down over -2% in August after surging almost +14% since March ’23. Nifty scaled a new lifetime high of 19990.80; i.e. almost 20000 on 20^th July. Overall Nifty was primarily supported by an FII boost amid improving domestic macros, the appeal of Modinomics, and India’s 6D (demand, demography, democracy, deregulation, development, and digitalization), coupled with political & policy stability and hopes of Fed/RBI pivot.

The Indian capital market is also enjoying a valuation/scarcity premium among comparable emerging market economies (EMEs), and FPIs are now scrambling for India, considering the currency/macro/policy/political stability along with well-managed blue chip companies, improved corporate governance, strong banks & financials, and deleveraged corporates. India is now enjoying the benefit of a vibrant economy and democracy, a rare combination in the EM world.

In August, the Indian market was mainly boosted by media, techs, and pharma to some extent, while dragged by energy, banks & financials, infra, FMCG, realty, metals, and selected automobiles amid subdued report card and Chinese slowdown.

Technical Analysis: Nifty Future (LTP: 19340)-EOD: 30/08/23

Looking ahead, whatever may be the narrative, technically, Nifty Future now has to sustain over 19200-19150 for a rebound to 19500/19600-19700/19875 and 20000-20050*/20100-20250*/20375 and 20650/21050-21550/21650 in the coming days (Bullish case scenario). On the flip side, sustaining below 19100 Nifty future may again fall to 18940/18800-18660/18600* and further 18400/18000-17850*/17650 zones in the coming days (Bearish case scenario).

Now the next market move will depend upon Fed action/commentaries about rates in September and November. Dow Future may now rally further to 35700 levels from around 35000 if the Fed indicates a pause in September, but going forward, if the Fed indicates another hike in November, then Dow Future may again fall from around 35700 to 34000 levels. And India’s Nifty future bounds to follow Dow Future despite the narrative of some decoupling story. The immediate market focus will be on US core PCE inflation data and the NFP/BLS job report this week.

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