Daily Voice: RBI’s hands are tied for near-term rate cuts as rupee depreciates sharply against USD, says this Investment Strategist

Compared to several other popular sectors, the Auto sector might not appear too overvalued at a PE of 28-30. But one should not forget that this is a relatively slower growing sector which grows slower than the nominal GDP. For single digit growth rates a PE of nearly 30 is quite overvalued and one should be cautious.

While there could be near term revenue and earnings growth driven by new product launches, especially EVs etc., one should evaluate rather diligently what is a fair value for these companies. Otherwise, the near-term revenue growth might be mistaken for long-term sustainable growth rates and higher price multiples might be justified and eventually turn out to be overoptimistic resulting in not-so-good impact on the portfolio.

We suggest caution and diligence.

Do you expect earnings growth to pick up to 15–16% in the next financial year?

At this stage there have been several reforms, such as the income tax slab and GST, and RBI rate cut cycle which should trigger domestic consumer demand. This should make the GDP growth more broad-based and as well as tick up to a higher trajectory.

However, the challenge to further rate cuts by RBI is the INR dropping against the USD. Similarly, the US-India trade issues make the global environment challenging for the Indian economy. Further, the impact on IT due to the H1-B visa issue casts a shadow on one of the largest pools of high-end consumers in India, viz., the IT workforce.

Also, for earnings growth the growth in Oil & Gas and Metals & Mining is difficult to predict. These along with IT have a significant weight in the Nifty 50 and might make it challenging for a 15% earnings growth. But it is likely to be more than the nominal GDP growth rate of 10%-12%.

Is the current market rally driven by optimism around India–US trade deal negotiations, or is it primarily due to the Fed rate cut, which could pressure the US dollar and signal increased FII inflows?

It is likely to be a mix of both and more driven by domestic investments continuing to flow at a sustained pace via SIPs etc. The trade deal would only be a near-term trigger while the Fed rate cuts will have a more persistent impact lasting for several quarters in the future.

With negotiating tactics like the H1B visa fees etc., the trade deal might take a little bit longer than expected. But if it happens there is likely to be a relief rally. Post that, the Fed rate cuts will be more relevant.

Do you anticipate two more rate cuts from the US Federal Reserve in 2025?

As Powell says, it is all data driven. If the inflation remains benign and US GDP growth and unemployment look like they are worsening then the Fed will be forced to do more rate cuts. However, if inflation starts getting out of hand then the Fed will probably be careful to not cut too fast.

In short, the overall pressure is to cut rates, but depending on what risk looks worse, inflation spiking or economy going into recession, the Fed will try to counter that.

Do you expect the RBI to follow suit and cut the repo rate in the October or December policy meetings?

Given the benign inflation in India and need for catalyzing growth to a higher trajectory, RBI would have been quite comfortable in cutting rates in both the meetings. However, cutting rates also has a negative impact on the INR, causing potential depreciation. With the INR already depreciating strongly against the USD, the RBI’s hands are a little bit tied in the near term.

If the INR recovers before the October meeting then RBI would cut, otherwise, they might take a more cautious stance keeping multiple factors like impact on imports exports etc. and FII flows and the trade deal or tariffs and visa fees impact in mind.

Do you see the rally in gold prices—ongoing since the second half of August—continuing in the near term?

Besides many other factors, the gold prices are probably rallying since several central banks across the world are reducing exposure to the USD and increasing to alternatives including gold. One should remember the late 1990s-early 2000s when the central banks were selling a lot of gold. That caused a near-term bottom for the gold.

Now, the opposite is happening. Once they stop buying gold should again settle to a more appropriate price. But near term it looks likely that the rally continues, but we would be cautious about any long-term exposure.

Which sectors should investors consider adding to their portfolios at this point?

Our favourite and overweight sectors are Banks, Infrastructure, Power, Manufacturing, Logistics, and Commercial Services. Besides, Defence and Railways continue being favoured by Government spending for the long-term.

Disclaimer: The views and investment tips expressed by experts on Moneycontrol are their own and not those of the website or its management. Moneycontrol advises users to check with certified experts before taking any investment decisions.