Near term triggers for mkt: No rate cut, FII outflow, US

Although the rupee recovered since its fall to all-time low of Rs 58.98 intraday on Tuesday, fears of further downside in the market have accentuated.  In a discussion on CNBC-TV, Jayes Mehta, MD, Bank of America and Rahul Goswami, head - fixed income, ICICI Prudential MF see rupee playing a key role in the market in the days to come. While Mehta says rupee did fall slightly more than other emerging market currencies, he reminded investors that the epicentre of this decline lies in the US.

He says globally investors are cutting exposure to get by when the eventual sqeezing of quantitative easing (QE) happens. That is the reason why FII outflows will comntinue. Goswami on the other hand adds that there will be no rate cuts in the face of declining rupee. " I still believe there is a high probability of rate cut in the July 30 policy not on June 17 policy,"  he says. Also read: HSBC sees $1.5-2bn more FII outflow from debt; no rate cut Below is the verbatim trascript of the interview: Q: What is your call on the rupee, what have you made of the weakness that we have seen? Mehta: We are suffering from global pain as we are connected with the global world. It is not that individually India as a country is suffering, all emerging markets and particularly emerging market Asia is suffering. We are more on less on track. We are may be 1 percent more depreciated than others and we have our current account and other problems too. So, we are 1.5 percent more depreciated than the other Asian currencies, but it is all about the US. Q: Yesterday the contagion didn’t go to the equity markets, today it has. Quite clearly the impact of a much cheaper rupee is perhaps now beginning to tell on EPS calculations. Have you heard of any Foreign Institutional Investor (FII) selling? We are down to 34 on the Sensex and on the Nifty we are touching 5810 and that is a fall of 1.2 percent. Is this becoming and equity selling as well from the funds? Mehta: I haven't heard anything or may be I am not aware about the equities side, but it would impact equities too. If you really look at what is happening is repositioning of the people globally because if you were running with 100 percent with Quantitative Easing (QE) at the back of your mind, you would reduce your exposure to something. Now, that something would be different for everybody. So, somebody would be reducing by 20 percent, somebody by 40 percent. And till the positions get readjusted as per the new level everybody wants in absence of any new data coming in. It will only stabilise after once people achieve that reduction in their position. Q: How do all these events impinge on the Reserve Bank of India (RBI) you think? Now the June 17 policy will definitely be a no action policy, what will you look forward? Will it be perhaps replaced by a dovish tone at least? Goswami: I think the tone might get slightly dovish than what we saw in the previous two policies. However, I agree that the probability of a no action policy is reasonably higher in June 17 policy. RBI will take note of currency volatility in the recent past and will be wary of any unfavorable situation developing. So, I will not bet too much on the possibility of rate cut in the June 17 policy. _PAGEBREAK_ Q: We have already seen USD 2.7 billion of outflow from the Indian debt market since May 22, are you expecting more outflows? What are the indications that you have got from the FIIs who have invested in the Indian debt market. Mehta: Yes, in the first round we got USD 3.5 billion from May 22 selling coming through. It is all about positions where people are going to reassess their positions. However, lot of the situation is like they are hedged positions. So, it is a more carry trade which is again in short-term. That may not get really un-winded. If you really look at the withholding tax impact from May 22 we got USD 3.1 billion inflow. Then we got an outflow of USD 3.3 billion. So, that is completely watched out. People will look to where it stabilizes. Once people’s positions get adjusted everybody is going to reduce risk. Once comfort level of reduction of risk is achieved people will start looking at what should we do the next. However, at this juncture it is all about reducing the risk. Q: What is your sense about what the FIIs are speaking with you? Are you getting a sense that Indian debt is still attractive and after some profit taking people will continue to remain invested or even bring in fresh money? Mehta: There are two parts to it: 1) We got the announcement of withholding tax only on May 1. The new investors coming in it will take at least three-four months to set up their situation for India at this juncture. 2) Even on corporate bond we still haven't got the clarification. So, withholding tax of 5 percent is done deal for government bond. For corporate bond one notification is still pending and lots of people still have not started that process. So, what we had is short-term traders, hedge funds who were already there in India increased their positions with the withholding tax coming in. We saw first round of selling which is the increased position which came in. Right now whether people will actually reduce further by selling or whether they will reduce further by not rolling it over. That will depend on how the forwards move but at this juncture everybody is trying to reduce positions. In the meantime I will not completely give up the hope. I still believe the real money guys would come in but they haven't yet started. If you really look at it from May 1 when the announcement came people have not even started their internal process. The regulation is not still fully out and that money I don't expect to come before three-four months. Once people start their internal process it is going to take them three-four months to set up India and things for India. Q: Is there a reason to change the total quantum of rate cuts that you are expecting from the RBI for the full year given the rupee depreciation and crude as well has bounced well of that USD 100 sub? Goswami: We still believe that cumulative rate cuts in the current financial year will be around 75 bps. We expected 25 bps rate cut in the one of the next two policies. I still believe there is a high probability of rate cut in the July 30 policy not on June 17 policy. By that time RBI will have much better clarity as far as the rupee exchange rate is concerned and also on the monsoon. Apart from that we see this rupee unfavorable volatility only in the short-term. We believe that for the remaining part of the calendar year and the financial year we will see reasonable opportunity for rupee to appreciate from current levels. So, I don't rule out further short-term undue or unfavorable volatility on the rupee. However, in the medium term remaining part of the fiscal and the calendar year I see reasonable appreciation opportunity in the dollar rupee from a rupee perspective. _PAGEBREAK_ Q: What might be the upshot in the bond markets if indeed that rate cut doesn’t come on June 17? Is it largely factored in or would you see yields jumping up? Goswami: FII selling has happened to the extent of around USD 2.5 billion in four weeks time. I think 70-75 percent of the selling is over. Although we don't have any strong grip on that but I continue to believe that 70-75 percent of the selling is over and another 5-7 bps at the best can happen on the bond yields if there is no rate cut on June 17. So, I continue to expect that 7.5-7.37 as the trading range on the new 10 year bench mark for the month. As we see stability coming back to the rupee, I think the trading range will shift downwards only. Q: What is your yield range for the month of June itself? Mehta: Most of the selling unwinding which was required, 70 percent has been done unless there is some new news coming further. One suddenly sees the US yield spiking up too much then people may further reduce it from the desired level. However at this juncture that is more or less taken care of. In terms of policy, may be rate cut traditional wisdom may not happen. However, what we require and we should take is the advantage of rupee depreciation and get the benefit out of it for at least exports and others, while we don't really have done much on the project side. So, at least if we have the currency favorable to exports and US economy doing well, may be infusion of liquidity and the base reduction can really do something good for India rather than just depending on the flows. Coming back to the bond yield basically we look at 5-7 bps sell off if the rate cut does not come in.