inflation spooks markets

Runaway inflation spooks markets

Markets are trading with a negative bias as index hit fresh 52-week lows ~15,300 NIFTY levels. Higher interest rates & inflation globally have led to fears of stagflation. RBI increased repo rate by 50 bps on 6th June while FED increased rates by 75 bps on 15th June, the highest hike since 1994, to control inflation as crude remained elevated around $120/bbl levels. Fears of global slowdown coupled with high crude related inflation spooks markets.

FII have been selling heavily in Indian equities in FY22 to the tune of Rs.2.75 lakh cr. They have continued to be net sellers to the tune of Rs.40652 cr in April & Rs.54292 cr in May 2022. They continue to be net sellers to the tune of Rs.31012 cr till 15th June 2022. At a time when FIIs have continuously been selling, DIIs have provided some support to the markets. With interest rates & bond yields increase globally & a stronger USD, we are seeing asset re-allocation towards USD & US bonds.

As per AMFI data, total assets under management fell 2.1% m-o-m to Rs. 37.3 lakh cr, with AUM of debt and equity schemes declining 2.5% each. This fall in AUM is due to decline in stock prices in May as most Nifty indices delivered negative returns, with Nifty 50 itself down by 3.03%. Open-ended equity mutual funds in May registered net inflows of Rs.18,529 cr, up 16.6% sequentially despite volatility in markets. Further, systematic investment plan (SIP) inflows of Rs. 12,286 cr in May against Rs. 11,863 cr in April indicated that retail investors continued to hold confidence on equity investments.

Gold price have been subdued for some time now as gold is hovering between$1810-$1850/oz in international markets & ~Rs.50000-51,000 in India. Gold may witness some softness at current levels. A strong US dollar and liquidation of bullion to cover losses in other assets has put pressure on gold. Higher short-term U.S. interest rates and bond yields increase the opportunity cost of holding bullion, which yields no interest.  INR has been depreciating sharply against the USD and has been hitting all-time highs around Rs.78/$.

Brent crude prices increased to around $120/bbl. The lingering Ukraine Russia conflict & decline in Russian oil exports have kept crude at elevated levels. Not only did OPEC not lift its production as agreed for the month of May, its production actually decreased, according to OPEC’s latest Monthly Oil Market Report. The biggest hike by the US central bank since 1994 also sent dollar higher with the dollar index rising to its highest since 2002. A stronger greenback makes US dollar-priced oil more expensive for holders of other currencies, curtailing demand.

Inflation in US is at a 40 years high and crude at elevated levels will aggravate the problem. The US Federal Reserve on 15th June raised the benchmark lending rate by 75 bps to 1.5-1.75%, the sharpest increase in over two decades. Further rate hikes are on the anvil. Following FED, Bank of England unveiled its fifth consecutive 25bps rate hike to 1.25%, its highest level since the global financial crisis in 2009. BoE forecast British inflation to soar further this year to ~11% from 9% currently. This is leading to recessionary trends as growth is slowing and the effect of the tightening in financial market conditions and removal of monetary policy have yet to hit the economy.

Consumer Price Index inflation (CPI) eased to 7.04% in May from April’s near-eight-year high of 7.79% thanks to a favorable base effect. It has now spent five months above the 6% upper band tolerance range. In May, the general index of the CPI was 160.4—1.6% higher than the 157.8 seen in April. While the index for food and beverages increased 1.5% m-o-m, that of fuel and light was up 1.4% from April.

Wholesale Price Index (WPI) hit a fresh high in May, rising to 15.88% from 15.08% in April 2022. Another 10%-plus print in May means WPI inflation has extended its stay in double-digit territory to 14 months in a row. The overall all-commodities index of the WPI increased 1.4% m-o-m, while the index for primary articles rose 2.8%. Within primary articles, the index for food articles rose 2.4% from April. The index for the fuel and power group was 2.3% higher in May compared to April, while that for manufactured products – which account for 64.23% of the WPI basket – rose 0.6%.

The RBI has increased the repo rate by 90 basis points so far in FY23 to 4.90%. And economists see it continuing to increase the policy rate in the next couple of meetings, with the key rate seen around 5.5-6.0% by the end of the financial year. The rate hikes are bound the impinge on growth, albeit with a lag, with the central bank retaining its GDP growth forecast for FY23 at 7.2% on 8th June.

The Index of Industrial Production (IIP) in April jumped 7.1% y-o-y as against 1.9% y-o-y in March. Growth in the mining sector was 7.8% in April 2022 while the manufacturing sector expanded by 6.3%.  Power sector showed a growth of 11.8% y-o-y in April 2022.  Capital goods output, which is a barometer of investment, showed a growth of 11% while the primary goods segment, which accounts for nearly 34% of the index, expanded by 10% in April 2022.

The S&P Global India Manufacturing Purchasing Managers’ Index (PMI) came in at 54.6 in May, slightly lower than April’s 54.7 but above the 50-level separating growth from contraction for an eleventh month. While new orders, a gauge of overall demand, increased strongly last month, albeit at a slower pace, foreign demand grew at its strongest pace since April 2011 despite worries over the Russia-Ukraine war, China’s economic slowdown and high inflation. The S&P Global India Services Purchasing Managers’ Index rose to 58.9 in May from 57.9 in April, it’s highest since April 2011. Strong services and manufacturing activity boosted the composite index to 58.3 in May from 57.6, it’s highest since November.

The India Meteorological Department (IMD) updated the forecast for 2022 southwest monsoon to 103% of the Long Period Average (LPA), from 99% predicted in April as La Niña conditions are expected to prevail during the entire stretch of the four-month monsoon season. This could have a positive impact on the retail inflation and boost rural economy. The forecast is with a model error of plus/minus 4%.

As per Society of Indian Automobile Manufacturers (SIAM) total passenger vehicle (PVs) sales in May 2022 increased 185% y-o-y on a low base, to 251,052 units. This is higher than pre-pandemic levels of May 2019. Three-wheeler sales jumped manifold to 28,542 units sold in May 2022 against 1,262 units sold in May 2021. While two-wheeler sales rose over 253% to 1,253,187 units against 354,824 units sold in May 2021. Three-wheelers and two-wheelers sales are yet to surpass the pre-pandemic level of May 2019. Recent government interventions regarding semiconductor chips would help in easing of the supply-side challenges, but hike in repo-rates by RBI and increase in 3rd party insurance rates, could become more challenging for the customers, thereby impacting demand.

The GST revenue for the month of May stood at Rs 1,40,885 cr. The numbers have surged 44% as against Rs. 97,821 cr during the corresponding period of preceding fiscal. GST collection crossed Rs.1.40 lakh cr mark 4th time since inception of GST; 3rd month at a stretch since March 2022, though it is significantly lower than the Rs.1.68 lakh cr clocked in April 2022. The CGST accounted for Rs.25,036 cr, SGST for Rs 32,001 cr and IGST for Rs 73,345 cr. Total revenue for Centre and states stood at Rs 52,960 cr and Rs 55,124 cr respectively.

Fitch Ratings upgraded the outlook on India’s sovereign rating to ‘stable’ from ‘negative’ after two years, citing diminishing downside risks to medium-term growth on rapid economic recovery. They kept the rating unchanged at ‘BBB-‘.  The agency in June 2020 revised the outlook for India to ‘negative’ from ‘stable’ on grounds that the coronavirus pandemic had significantly weakened the country’s growth outlook. The agency cut the economic growth forecast to 7.8% for the current fiscal from the 8.5% prediction it made in March due to the inflationary impact of the global commodity price shock. The Reserve Bank retained its GDP growth forecast at 7.2% for the current fiscal but cautioned against negative spillovers of geopolitical tensions and a slowdown in the global economy. India’s economy grew by 4.1% in the January-March quarter of 2021-22.

There has been a sharp correction in markets & Nifty 50 is trading at a trailing P/E ~18x, forward 15-16x P/E. So per se NIFTY is not very expensive. A 5-10% fall in markets is always possible, but a crash looks unlikely as we will have strong earnings support.

Globally high inflation, rising interest rates coupled with a slowdown is worrying as there are fears of stagflation.  The frontline indexes have corrected sharply below 15300 NIFTY, we feel proper stock picking will be critical. The LIC IPO has been disappointing and the stock is ~30% below issue price. GST collections have remained above Rs.1.4 lakh cr. IIP numbers need to sustain. With crude around $120/bbl further rise in inflation is possible. With the FED & RBI increasing rates continuously all eyes remain on the inflation number. We strongly advise investors to continue their SIPs in equity funds & if possible increase the amount. This is a very good buy on dips market & should be bought in a staggered manner.

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Sabyasachi Paul has been associated with equity research and advisory on equity markets in India for over 14 years & currently heads the equity research desk of Eastern Financiers Ltd, Kolkata.

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