Monetary Policy: Fed Raises Rates While BoJ Holds Steady

The Federal Reserve raised its benchmark interest rate by 25 basis points to 1.25% on Wednesday. This was the third such increase in six months - and a message of confidence from the Fed in the strengthening of the US economy.

They also forecasted another three-quarter-point rate hike in 2018, in line with the projections from March.

US Federal Reserve rate hikes generally have a negative impact on emerging economies. But India is currently seen as better equipped than other emerging markets to ride the impact of higher US interest rates. That's largely because of its stronger economic growth and impressive foreign exchange reserves of more than US$300 billion.

Foreign portfolio investors may not drain funds from India in a knee-jerk reaction to the Fed rate hike, as that would mean missing out on the enormous growth opportunities Indian markets offer.

As Rahul Shah, co-head of research at Equitymaster, writes in the Equitymaster Research Digest:

    If such a small move sounds unworthy of your attention, you would be right. The hype and hoopla surrounding Fed meetings is irritating at best and dangerous at worst. Long-term investors would do well to avoid getting swayed by such events.

However, the Fed's normalising of its balance sheet could impact emerging markets and tighten financial conditions.

The Fed also outlined a clear path to reduce its US$4.5 trillion portfolio of treasury bonds and mortgage-backed securities, which it purchased in the wake of the 2007-09 financial crisis and recession. Most Fed policymakers think the central bank should take steps to trim its balance sheet later this year as long as the economic data holds up.

Since 2008, the Fed's swelling balance sheet has propped up the US economy. It's also aided the rally in emerging markets all these years. So any change to the Fed's balance sheet will have an immediate impact on emerging stock markets.

Moving on to Japan...

The Bank of Japan (BoJ) kept its monetary policy steady on Friday, offering a more upbeat view on private consumption and overseas economies. This signaled the BoJ's confidence that the recovery was gaining momentum.

Note that Japan's economy gained the most after the fall of the yen after Donald Trump's election as US President.

While the above developments look good, many issues can still hamper Japan's economic growth. The economy is flooded with excessive money printing...too much debt...too much government intervention...too much stock market manipulation, etc.

Also, these BoJ moves are in continuation with the easy money policies that central banks are adopting around the world.

With the changes at central banks in 2016, it seems that the end of easy money is near. And it can very well affect the emerging stock markets across the globe, including India. However, a crash can be an ideal time to bet on solid Indian companies that are well-shielded from adverse developments in global markets. As these companies can turn into bargain buying opportunities.

Global indices ended the week on a negative note. European stocks traded on a weak note. Germany (DAX) ended with a loss of 0.49%, France (CAC) ended with a loss of 0.69%., and the London market (FTSE) was down 0.85%. Asian markets ended the week on a negative note. The Nikkei Index was down 0.35%, the Hang Seng Index ended down by 1.55%, and the Shanghai Index was down 1.14%. US markets traded in the red and ended their session with a loss of 0.90%.

Indian Stock Markets Slipped on Weak Global Trends

Back home, the Indian indices ended their weekly session on a negative note. The BSE Sensex was down 0.66% for the week, while the NSE Nifty was down 0.83%.

Realty (+4.47%) and Power (+0.84%) were the biggest gainers for the week. Metal (-2.42%), IT (-2.15%), and Auto (-1.55%) were the biggest losers.

In economic news, the Central Statistics Office (CSO) released inflation data from the Consumer Price Index (CPI) and Wholesale Price Index (WPI).

The CPI sunk to 2.18% in May, slower than its previous record low of 2.99% in April and the lowest since the Centre began measuring it on a nationwide basis in 2012.

Among the CPI components, inflation of food and beverages dipped 1.5% in May 2017 as compared to a rise of 7.3% in the same month last year, which were a chief contributor to the rise in CPI inflation. The inflation for fuels fell to 5.5% in May from 6.1% in April. While that for housing was flat at 4.8% in March 2017.

The WPI sunk to 2.17% in May from 3.85% in April, charting a steady decline from 5.9% in March 2017.

The wholesale inflation rate, measured by the wholesale price index (WPI), is a marker for price movements in bulk buys for traders and broadly mirrors trends in shop-end prices.

The index portrays new WPI data released by the government last month, with 2011-12 as the base year, replacing existing the base year of 2004-05.

Among the WPI components, food inflation decreased from 2.9% in April to 0.15% in May 2017, contributing to the fall in WPI inflation. Fuel inflation fell to 11.7% in May from 18.5% in April.

In its monetary policy review last week, the RBI cut its average inflation forecast from 4.5% in the first half of the year and 5% in the second half to the range of 2-3.5% in the first half of the year and 3.5-4.5% in the second half.

In news from the manufacturing sector, India's industrial output slowed down marginally in April.

The Index of Industrial Production (IIP), an indicator of India's industrial production, fell marginally to 3.1% in April from 3.8% a month ago as mining production and electricity generation eased. A lower offtake of capital and consumer durables also contributed to the decline.

IIP is compiled using data received from fifteen source agencies, including the Department of Industrial Policy and Promotion (DIPP), the Central Electricity Authority, the Ministry of Steel, the Ministry of Petroleum and Natural Gas, and the Railway Board.

The 76th round of the RBI's industrial outlook survey suggests that financing conditions facing the manufacturing sector have worsened in Q3 of 2016-17 and are expected to remain tight in Q4. This is corroborated by the sharp slowdown in bank credit to industry and continuing sluggishness in the investment climate in some sectors.

The fall WPI, coupled with lower retail inflation and industrial production data may put pressure on the Reserve Bank of India (RBI) to change its policy stance to accommodative from neutral at present. The RBI, which kept its key lending rate unchanged last week, has warned of a looming inflation threat over the next 6-12 months, leaving the door ajar for an interest rate hike in 2017-18.

A lower inflation rate, can indicate a slowdown in demand and weaker economic activity.

In GTS news, the GST Council has reduced the rates for 66 items and expanded the scope of the composition scheme for the benefit of small traders, manufacturers, and restaurateurs.

The composition scheme is a presumptive taxation scheme allowing small traders, manufacturers, and restaurants to pay a 1-5% GST rate on sales without tax credits.

In our view, GST promises to transform India into a single common market and many sectors are subject to benefit immensely from the transition.

If you want to dig deeper into the practical implications of GST, we strongly recommend you download Vivek Kaul's free report, What the Mainstream Media DID NOT TELL YOU about GST.

Will the Index Resume Its Upmove?

The Nifty 50 Index ended the week on a negative note. On Monday, it opened gap down and continued to trade in a downtrend throughout out the week. The selling was due to a weak trend overseas. Finally, on Friday, the index recovered a bit but ended the weekly session down 0.83%.

As we mentioned in an earlier note, the Nifty formed a bearish engulfing candlestick pattern on the daily chart. This is a short-term reversal pattern that signaled a minor correction. The RSI indicator formed a negative divergence, which also indicated a correction. The index did correct - 80 points from last Friday's closing.

We mentioned that the correction might drag the index towards its 20-day exponential moving average (EMA), which is acting as good support at every minor correction since January 2017. The RSI indicator is also near its previous low, which might act as a support.

If the 20 EMA is able to provide support once again, the index might resume its uptrend. On the flip side, we might see short-term weakness if the index slips below the moving average.

COMMODITIES

Gold Trades on a Negative Note

Gold traded on a negative note during the week. On Monday, it opened the session lower but recovered a bit to close the session marginally down. But the down move in the yellow metal continued as it faced selling pressure throughout the week. The selling was seen on the back of strong dollar as the Fed raised interest rates. Finally, on Friday, gold continued its down move and ended the weekly session 1.13% down.

Gold Ends in the Red

Silver Follows Lead from Gold

Silver too traded on a negative note during the week. It opened the weekly session lower and continued to trade down until midweek. The white metal saw some buying on Wednesday, but it was temporary as the commodity slipped sharply the next trading session. The metal continued to trade down on Friday as well and ended its weekly session with 3.06% loss. The selling was seen due to a weak metal trends overseas.

Crude Oil Near Its Six-month Low

Crude oil traded in a down move during the week. It opened its session up on Monday and continued to trade north to close the session positive. But the buying interest did not last for long and the commodity witnessed selling pressure going into midweek as OPEC failed to curb oversupply. Finally, on Friday, the selling accelerated and the commodity ended its weekly session down by 2.70%. The rising output from the US also weighed on the black gold.

Crude Oil Trades in a Downtrend

Natural Gas Trades on a Volatile Note

Natural gas traded on a volatile note during the week. On Monday, it opened the session gap down and traded down until midweek. The selling was seen after a bearish weather forecast. On Thursday, the commodity witnessed some buying after weekly storage data turned positive. Finally, on Friday, the down move resumed and the commodity ended the weekly session flat.

CURRENCIES

Dollar Ends Marginally Higher

The dollar traded in an uptrend during the week. It opened its session higher on Monday and continued to trade up to end the session positive. Midweek, the currency witnessed some profit booking but the upmove continued towards the end of the week. The dollar strengthen as Fed raised interest rates. Finally, on Friday, the currency witnessed some profit booking but ended the weekly session with marginal gains of 0.17%.

Dollar Ends in the Green

Euro Ends Flat after Initial Spurt

The euro ends the week on a flattish note. It opened the weekly session higher and accelerated as German economic data turned favourable. But the buying did not last for long as the currency witnessed selling for the remaining days of the week. The selling was seen on back of Fed interest rate hike. Finally, on Friday, the euro continued to trade dull and ended its weekly session marginally up against the rupee.

Pound Witnesses Buying Interest

The pound traded on a positive note during the week. It opened the weekly session higher traded but traded negatively until Wednesday close on the back of weak economic data. On Thursday, the currency witnessed strong buying interest as three out of eight Bank of England (BoE) members preferred a rate hike. The currency minor profit booking on Friday and ended the weekly session with 0.22% gains.

Yen Trades on a Negative Note

The yen traded on a negative note during the week. On Monday, it opened the session gap up to trade positive until the Tuesday open due to safe heaven demand as NASDAQ plunged. The currency witnessed some profit booking midweek. But the up move continued towards the end of the week as the Bank of Japan held monetary policy steady as expected. Finally, on Friday, the yen witnessed some selling pressure and ended the weekly session with loss of 0.71%.

Commodities 9th June 16th June % Change
Gold/10 gms 29,019 28,690 -1.13%
Silver/kg 39,694 38,481 -3.06%
Crude Oil/barrel 2,959 2,879 -2.70%
Natural Gas/mmBtu 196.10 195.90 -0.10%
Currencies 9th June 16th June % Change
USD / INR 64.40 64.51 0.17%
EUR / INR 72.09 72.14 0.08%
GBP / INR 82.26 82.45 0.22%
JPY / INR 58.40 57.99 -0.71%

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