May 03, 2013, 06.36 PM IST | Source: CNBC-TV18

Here's how market read RBI's credit policy

The Reserve Bank of India (RBI) delivered a 25 basis point rate cut on Friday, something the market had already factored in but its hopes for a CRR cut was squashed by a very hawkish sounding central bank.

Moneycontrol Bureau

The Reserve Bank of India (RBI) delivered a 25 basis point rate cut on Friday, something the market had already factored in but its hopes for a CRR cut was squashed by a very hawkish sounding central bank.

The BSE benchmark Sensex, which had run up significantly in the run up to the policy meet, lost 160 points to close at 19575, while the NSE benchmark closed over 50 points down at 5944.

The market had taken a very bearish view based on what the RBI said yesterday in its Macroeconomic Survey , expecting a far more negative fallout in credit policy. But since the 25 bps repo cut did happen market probably said, "Okay, it is not as bad as we thought". The market may take some more time to digest RBI's tone and comeback with a slightly more nuanced view.

But the key word in today's commentary was the possibility of a policy reversal, says UR Bhat, Dalton Capital Advisors adding, this has never been part of the RBI policy statement till now. Therefore, it is not only that they may stop further cuts but there could be a policy reversal on happening of certain events, which is something dramatically different than what they have been saying.

Bhat says the RBI is assessing the situation based on expectations about various factors, including potential government decision. Whereas, what the government actually puts out is based on their conviction about what decisions they would take.

RBI says the biggest risk to the economy stems from the current account deficit (CAD) which, last year, was historically the highest and well above the sustainable level of 2.5 per cent of GDP. A large CAD will put pressure on servicing of external debt. It says financing a large CAD exposes the economy to the risk of sudden stop and reversal of capital flows.

It also says effectiveness of monetary policy could be undermined by supply constraints in the economy. Food price pressures, upward revisions in the minimum support prices and rapid wage increases are leading to a wage-price spiral.

Clearly, the RBI is more pessimistic than the government, Montek Singh of the Planning Commission told CNBC-TV18 in an exclusive interview.  The government forecast is as of now still feasible. "I have no idea what the RBI thinks our effectiveness will be, but we are working hard on it," he states. 

If you really see the distinction is really about governmental action in terms of addressing issues of stalled investment projects etc, says Bhat. "So if the government has a view that it can really address that very well then the whole outlook changes. RBI's view on that and probably most of our view on that is that government is taking way too long to address these issues," he says.

Anand Tandon, JRG Securities believes the RBI has done a very good thing, which is to keep the focus firmly on the real economy and not interest rates.  That is finally putting some pressure on the government to try and move forward. We heard various people saying that there will be an attempt to try and remove the policy logjam. So it is very important what they have done and eventually if it does force the government to take some action, it will be good for the market.
 
Another concern according to RBI is the global liquidity situation which it says could quickly alter for emerging economies, including India, due to adverse global developments.

If due to some global reason, if FIIs were to be selling in India, the market can certainly go down, says S Naren of ICICI Prudential. "We have been advocating a neutral position at this point of time in equity and at the same time we believe that investors are very under invested in equity and they need to consider increasing allocation to equity slowly over the course of the next one year or so," he says.

Market strategy:

The approach should be to maintain long positions in the Nifty, says Sudarshan Sukhani, s2analytics.com. "I had suggested going short in the Bank Nifty and I am pleased to say that that trade has actually worked out and made money. We also want to be long in the CNX IT. So essentially, we stay long in the Nifty, be long in the CNX IT and either close our short positions or maintain the short positions in the Bank Nifty. In either case, the Bank Nifty is not a buying opportunity," he told CNBC-TV18.

He is long on the Nifty, looking at momentum rather than numbers. "The last threshold of 5950 was crossed successfully. So, we remain long. Even dips and intraday corrections should be buying opportunities. This is all about the Nifty. I won't make a call on what levels the Nifty can go to. Let it go. The moment the momentum stops or falters, we will get out. That hasn't happened yet," he says.

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