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Moneycontrol Pro Weekender | Losing faith

Central banks have a trust problem with financial markets over their ability to steer economies towards a soft landing

May 07, 2022 / 11:33 AM IST
US Federal Reserve Chair Jerome Powell

US Federal Reserve Chair Jerome Powell

Dear Reader,

Is the faith of the markets in central banks beginning to wobble? Fed chair Powell explicitly said at his press conference that a “75 basis point in increase is not something the committee is actively considering”. That sent US equity markets racing up, but the Fed Funds Futures were unimpressed.

The CME Fedwatch tool shows that the probability of the Fed Funds rate rising to 150-175 basis points at the next FOMC meet in June is 91.4 percent. That means the markets still believe there’ll be a 75 basis point hike in the policy rate at the next FOMC meet. All that Powell’s statement did was reduce the probability of a 75 bps rate hike from 94.3 percent a week ago to 91.4 percent by Friday morning. The probability of the Fed Funds rate being 300-325 basis points by the end of the year has gone up just a tad, from 43.8 percent a week ago to 46.1 percent. We had a sharp analysis of the Fed rate hike by my colleague Anubhav Sahu.

The equity markets realised that very little had changed a day after the FOMC meet, which is probably why the US markets fell with a thud on Thursday. As this FT story, free to read for MC Pro subscribers, proclaimed, ‘The Fed has no plan’.

While the Fed’s actions were widely anticipated, the RBI’s rate hike, that too at an unscheduled meeting, was a huge surprise. We did, however, point out when the manufacturing PMI data came out, on May 2, that it “will add to the pressure on RBI to raise rates”. And the composite PMI data revealed why the central bank went in for a surprise rate hike. Simply put, growth continues to be strong despite all the headwinds, intensifying inflationary pressures.

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The mix of strong growth and inflation is seen in Havells India’s strong revenue performance for the March quarter, while cost increases squeezed profits. Mas Financial saw strong disbursement growth in Q4. HDFC and Kotak Mahindra Bank likewise showed good growth. The Marico management, despite the current stress on demand and margins, remains hopeful of a recovery in demand on the back of a normal monsoon. HUL chief Sanjiv Mehta told us that the FMCG industry will see more price hikes in the quarters ahead. Devyani International has hiked prices for its KFC and Pizza Hut businesses. UltraTech Cement is convinced about the upcycle in the cement industry, in spite of a challenging cost environment. Tata Steel is likely to see strong cash flow generation. Our Economic Recovery Tracker showed a rebound in consumer sentiment while this FT story said that margins will fall further.

MPC member Jayanth Varma had long ago questioned whether it made sense for the RBI to continue with a policy stance that was appropriate during the depths of the pandemic and this week, the RBI took a first step towards remedying that. We also said the rate hike was a hurried attempt to bridge RBI’s credibility gap, an acknowledgement it was behind the curve.

But what matters for investors is what strategy they should adopt, at this make or break moment for Indian equities. The silver lining, Mohamed El-Erian tells us, is that “after years of massive distortions, financial markets are correcting to levels where there is more sustainable value”. We too found valuations turning attractive for Maruti, Wipro, IndusInd Bank, Shakti Pumps, Hero MotoCorp and Mphasis, to name a few. MC Pro columnist Ajay Bagga wrote about the art and science of investing when markets are at peak pessimism. In our Personal Finance section, we considered whether Target Maturity Schemes are a good bet for debt investors. And this FT piece asked the important question: with the markets see-sawing wildly, why isn’t the Vix higher?

We had a bunch of stories this week on the RBI’s Report on Currency and Finance, which said, though not in so many words, that the Indian economy has got long COVID. It said the high level of government debt will hurt growth and it analysed where India stands on productivity and innovation, on how the cost of electricity for businesses in India compares with other countries, and who did the banks lend to in the COVID years.

The report had cautioned about continuing with accommodative monetary and fiscal policies for too long and the RBI appears to have heeded its warning. The report also pointed out that “a scatter plot of India’s current account balance and growth also confirms a non-linear relationship between these two variables, with the slope turning negative around a CAD level of 2.5 per cent of GDP”. Note that according to the IMF’s projections, the current account deficit is expected to be 3.1 percent of GDP this fiscal year and is projected to remain above 2.5 percent right up to 2027.

We said the LIC IPO would be a good bet; that the foods business is likely to be the next engine of growth for Tata Consumer Products; that supply side issues have slammed the brakes on the auto sector; that Titan’s outlook is shiny; and that Saregama now trades closer to its growth-adjusted valuation. We debated whether it’s time to say yes to Yes Bank; whether Eris Life’s hunger for growth could affect earnings; and said high-risk investors could trade Vedanta with a stop loss.

We also had our regular features: The Eastern Window on the superb job being done by External Affairs Minister Jaishankar; our Herd Immunity Tracker on the pick-up in booster doses; Start-up Street on the pitfalls in the logistics business and on India’s 100th unicorn; Tech Mantra on how companies are using new age technology to recruit and whether Elon Musk can eliminate spambots. That’s apart from FX Learn, Algo Learn and Decoding PLI.

With a major nuclear power involved in a dangerous war in Ukraine, supply disruptions, a trade war with China, crippling sanctions on Russia, the retreat of globalisation, slowing global trade and growth, high inflation and the end of decades of easy money, not to speak of the travails of climate change, it’s hardly a wonder that many in the markets are sceptical about the ability of central banks to engineer a soft landing. Why, even Janet Yellen says the Fed will need both skill and luck to manage a safe landing.

In April’s Bank of America Fund Manager Survey, the risk of a monetary policy mistake was at an all-time high while the Fed ‘put’ was seen at 3637 on the S&P 500. The S&P 500 ended Thursday at 4146.

Cheers,

Manas Chakravarty

 
Manas Chakravarty
first published: May 7, 2022 10:05 am
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