Do it yourself: Rate Cut

Showing posts with label Rate Cut. Show all posts

Tuesday, August 27, 2024

Staying put for now

The US Federal Reserve (Fed) Chairman Jerome Powell has provided the much-anticipated fuel to the US markets, which appeared running out of fuel after a shocking job revision. Speaking at the annual Jackson Hole symposium, he unambiguously hinted that “The time has come for policy to adjust” as “inflation has declined significantly. The labor market is no longer overheated, and conditions are now less tight than those that prevailed before the pandemic”. Though he qualified his remarks by adding, “the timing and pace of rate cuts will depend on incoming data, the evolving outlook and the balance of risks”.

These comments read with the minutes of the last meeting of the Federal Open Market Committee (FOMC) provide adequate ground to believe that—

(i) The current rate cycle has peaked out; and the next policy move will be a rate cut.

(ii) The policymakers are confident the spike in inflation that occurred in the aftermath of Covid-19 pandemic (massive cash stimulus fueling demand and logistic challenges causing break in global supply chains) has been successfully tamed.

(iii) The economy is no longer overheated as the pandemic stimuli have been gradually withdrawn, the job market has cooled down, and commodity prices are behaving normally.

Though Mr. Powell did not make it clear that the FOMC will cut rate in the next meeting scheduled to be held on 17-18^h September 2024; the market consensus is assuming it to be a certainty. The debate is now circling around how aggressive the Fed could be in their pursuit of policy easing. Though, Mr. Powell emphasized that the rate cut will be data driven, a majority of market participants are expecting a 25bps cut each on 18^th September, 7^th November and 18 December. Some aggressive estimates are building 50bps cut each in September and December.

I am not competent to comment on the dynamics of the US monetary policy and its implications for the global economy and markets. My concern at this time is limited to how does the likely change in the Fed’s policy stance affects my tine portfolio of investments, if at all.

In this context I note that—

· In its last meeting, the Monetary Policy Committee of the RBI retained its policy stance of withdrawal of accommodation and maintained the status quo on policy rates by a four to two majority vote.

One of the dissenting members, emphasized that “Global uncertainties continue. The Fed, in indicating a cut in its September meeting, pointed out that since monetary policy acts with a lag they can't afford to wait until they reach their inflation target before cutting. That lag may be responsible for the sharply adverse August jobs report that has stoked recession fears and created market volatility. That a series of small signals were ignored, may have led to a critical large one. Monetary policy needs to act well in time. Spillovers led the global manufacturing PMI into contraction zone in July at 49.7.” (See here)

The other dissenting member was even forceful in his dissent, stressing, “For the last several meetings, I have been expressing concerns about the unacceptable growth sacrifice induced by a monetary policy that is excessively restrictive. The majority of the MPC however do not share this concern, perhaps because they think that the Indian economy is already growing at close to its potential growth rate. I think that such a view reflects (a) an unwarranted pessimism about the growth potential of the economy and (b) an overly sanguine expectation about growth in ensuing quarters. I disagree with both prongs of this assessment.” (See here)

This clearly highlights that despite being warned of the perils of running behind the curve and impairing the growth potential, the MPC decided to retain its stance. Maybe the RBI is not as sanguine about the price stability and growth potential as some of the members of the MPC.

· The fourteen-month gap (July 2023 to September 2024) between the Fed pause and the first cut would be the second longest in the past five decades. The markets have been anticipating a Fed rate cut for almost a year now.

In this period, the stock markets, both the US and the Indian, have not witnessed any meaningful correction and are already at an all time high level. The question is whether the anticipated rate cut would provide immediate impetus to the markets; or the markets will be worried about further deterioration in economic growth.

It is pertinent to note that empirical evidence suggests that in the past three rate cycles, the US market has fallen 12 to 50% during the Fed rate cuts.

· The governments in the US and India are not in a position to back up the monetary policy easing with fiscal stimuli.

Under the circumstances, for now I am more inclined to assume that:

· It is not certain that the RBI will immediately follow the US Fed in cutting rates, unless strong evidence of growth collapsing emerges. Rise in the yield differential may attract stronger flows and support USDINR and markets.

· A weaker USD may support commodity prices

· A panic cut by RBI on the other hand may adversely affect the margins of banks (loans get repriced immediately while deposits take longer; CD ratio faces further pressure); and also affect the overall sentiments.

· The earnings momentum appears to have slowed down in 1QFY25. A sharp cut by RBI might arrest the slowdown in earnings momentum; and also help higher equity valuations to sustain.

· Negative real rates may adversely affect savers (consumption) and support capex.

I will review my portfolio in accordance with these assumptions in the next review. For now, I am just staying put.

Tuesday, March 24, 2020

Some random thoughts

Making IBC little more pragmatic

Last week while on a visit to Mumbai, I noticed few aircrafts belonging to the now defunct Jet Airways parked on the airport. The aircrafts had gathered lot of dust and pigeon crap. I believe it's more than a year since these aircrafts must have been parked there. The owner/lessee of these aircraft owes billions of rupees to various lenders and operational creditors. The company is undergoing the bankruptcy proceedings and apparently so far no buyer has shown any interest in acquiring the company.

I wonder, why the bankruptcy procedure be made little pragmatic! I feel one of the key purposes of the bankruptcy process must be to minimize the losses to the lenders and operational creditors. If these aircrafts that are lying idle were leased to other airlines till the completion of IBC process, at least some money could have been recovered. Or at least, Jet Airways could have been saved from incurring parking charges (which it can never pay), and machines could have been saved from major overhaul cost due to lying idle (again that cannot be paid by the Jet Airways).

A bureaucrat obviously will never take any initiative in this direction, as it would increase his workload and responsibility. The politicians who travel everyday and see these aircrafts rusting and gathering dust could only take an initiative, as it may require some legislative changes also.

Government may have done a lot by not doing anything

Talking with a senior bureaucrat last week I realized the importance of sophistry in running the government. To my inquisition about the below par performance of the Make in India program, his answer was the best example of sophistry.

He said, "the government went slow on Make in India program. We were never comfortable about creating large capacities using borrowed money to increase our integration to the global supply chain in these uncertain times. Our strategy of going slow has bore brilliant fruits. Imagine, if we integrated into global supply chain like China, and all those factories were shut down due to global demand collapse. All of these would have defaulted on their loans, totally crushing our financial system."

After the God explaining that "sometime inaction is the most appropriate action", this is perhaps the best explanation I have heard.

Clamor for rate cut may be misplaced

A lot of market experts have expressed their anguish over RBI not making an "emergency rate cut". Unfortunately, they are seeking rate cut to comfort the financial markets and not the economy. Their complaint is that stock markets are sliding fast and RBI is doing nothing to stop the slide, even though it has many bullets preserved in its barrel.

These experts appear totally oblivious to the fact that dramatic cuts by some large central banks have done almost nothing to arrest the market slide.

Even, from the real economy view market, a rate cut now would have yielded miniscule results. The capacity utilization levels are running persistently low and demand for new investment is low; the banks and NBFCs are mostly risk averse and not willing to lend; the system is liquidity surplus; RBI is providing 3yr funds at 5.15% and buying bonds to ease the pressure on longer maturities. A rate cut now may only disturb the equilibrium in currency market. I would rather like RBI to cut substantially when things stabilize a bit and banks are willing to take risk. For now, the rate cut would comfort stock markets for 2hours or may be less than that.

Tuesday, November 5, 2019

Keep the wheels of economy in motion

In one of his recent interview, Brian Coulton, the Chief Economist at Fitch Ratings, emphasized that the persisting credit squeeze in the Indian economy may hurt the economic growth much more than the present estimates. Brian cautioned that the GDP growth in FY20 could slip to 5.5%, much below the current RBI and government estimates of 6%+ growth.

For records, the Indian economy grew at the rate of 5% in the first quarter (April to June 2019) of the current fiscal year, the slowest in more than 6 years. The slowdown was visible in all sectors of the economy including agriculture, manufacturing and services. Within services, the growth in finance, insurance and real estate sectors was cited as particularly worrisome, as it highlighted poor credit conditions.

Besides, the credit availability, the high cost of credit is cited as one of the constricted factors. Despite 135bps cut in policy rates in the year 2019, the real rates are found to be still elevated, constraining the growth.

The GST collections for the month of September have reported at Rs 95,380cr a year-on-year decline of 5 percent and 3 percent lower than the monthly average of Rs 98,114 crore for FY19. The GST collections in FY20 have been consistently below the budget estimates. Juxtaposed to the shortfall in income tax collection, it does not augur well for the fiscal balance. The scope for the fiscal stimulus as widely anticipated by the market participants appears very limited. In fact, the government may actually be forced to increase the effective taxation for the affluent section of the society in the forthcoming budget.

Reportedly, housing sales declined 9.5 percent during July-September period across nine major cities to 52,855 units on low demand as economic slowdown and liquidity crisis weighed on buyer sentiment. As per the PropEquity data quoted by Bloomberg, Chennai saw the maximum fall of 25 percent in housing sales at 3,060 units during July-September 2019 as against 4,080 units in the year-ago period. Housing sales dropped 22 per cent in Mumbai to 5,063 units from 6,491 units, followed by Hyderabad that saw 16 per cent decline to 4,257 units from 5,067 units.

Notwithstanding some encouraging sound bites from the corporate leaders this Diwali, the recently released data on core sector growth belies the optimism. The growth in India’s core sector output contracted 5.2% in September 2019, its worst performance since 2005. All sectors in the core index, with the exception of fertilisers, posted a contraction. The data indicates the economy may have slipped further in the 2QFY20, confirming the fear of rating agencies and economists. As per some estimates the GDP growth rate for 2QFY20 could be closer to 4% rather than 6% as widely anticipated.

Two short points I would like to make here are as follows:

The growth slowdown is real, persistent and widespread. A part of this is certainly cyclical, but treating the entire thing as such may be misleading. The structural part of the downward shift in growth curve needs to be acknowledged, identified and treated separately.
The adhoc stimulus must be directed at boosting both consumption as well as investment demand. The measures like corporate tax rate restructuring, and ease of doing business shall have impact only in due course; and for these measure to have any impact the wheels of the economy must be kept in motion.