With an aim to arrest rising inflation, the US Federal Reserve, as expected, announced a quarter percentage point increase in the overnight federal funds rate in more than three years.  It was the first rate hike since 2018. The US central bank also said it expects to begin unwinding its massive holdings of government bonds and mortgage-backed securities at an upcoming meeting, as per Reuters.  

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“Fed has embarked on rate hiking cycle and has guided for an aggressive normalization, as it deems to be the quintessential tool to normalize the High Inflation. The aggressive rate hike outlook has come in response to U.S. witnessing a run-away Inflation exacerbated by rising commodity prices led by Geopolitical tensions & supply disruptions and posed with downside risks to global growth," said Niraj Kumar, Chief Investment Officer, Future Generali India Life Insurance.  

Rate hike already priced in by domestic market

Meanwhile, the Indian market seems to have already factored in this hike and closed with nearly 2% gain on Wednesday and opened with more than 1% rise on Thursday.  

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The Indian markets seems to have little or no impact of the rate hike as the benchmarks were trading with nearly 2% gains in the afternoon trade. After reclaiming 17,300, the broader Nifty was trading with gains of 1.87% to 17,287, while the 30-share Sensex was trading higher by more than 1000 points to around 57,900.  

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While the impending Fed rate hike has already resulted in strong selling by FII’s in the last few months, the strong support by DII’s has to a great extent mitigated the impact of FII selling, says Future Generali India Life Insurance Chief Investment Officer.  

"We reckon the markets will take this rate hike cycle in its stride, as prospects remains strong despite the inflationary headwinds and will navigate from the unknown to known territory.”
Arvind Chari, CIO, Quantum Advisors, says Markets have already priced in this eventuality that the US FED will hike its FED funds rates in almost all meetings in 2022 and the start of 2023. 

"What Is seen as a positive is that despite this normalisation, the FED expects real GDP growth to remain above 2.5% and more importantly, expects the unemployment rate to remain at the current level of 3.5%. So no hard landing at all," he said.  

Fed rate hike adjustments to the changed reality 

He further said that given that rates are at zero, any increase in the FED Funds rate from the current level to about 1.25%-1.5% should be seen as ‘normalisation’. 

"These are adjustments to the changed reality. Global central bankers reacted to the pandemic by cutting rates and adding liquidity. With economies recovering better than anticipated and the world learning to live with the pandemic, it is time to focus on managing inflation," Chari said.  

Challenges going forward

Speaking of market outlook going forward post Fed rate hike, Quantum Advisors CIO says things will not be a straight line. High Oil and commodity prices do induce some short-term vulnerability and complicate the case for the RBI’s monetary policy conduct.

"The market will get served with curveballs as usual. We are still not done with COVID. We do not know the outcome of the Russia-Ukraine skirmish and hence we cannot predict the outcome of commodity prices and so do the inflation," he said.  

As per Chari, the real scare would be in the middle of this year when the FED announces its plan for the Quantitative Tightening (QT).  

He, however, says that India is better placed than it was in 2012. "The corporate, household, and bank balance sheets are much better than before. More importantly, the RBI with its +USD 600 billion hordes of foreign exchange reserves is in a good position to manage volatility in the currency markets," said the expert. 

Opportunity to increase long-term allocation 

The Quantum Value Equity team sees the stock market correction due to the current issues as an opportunity to add/increase your long-term allocation to Indian equities.  

"There may be short-term hiccups given the uncertainty on the geopolitical front. There will also be volatility in market expectations due to the tight spot that Central banks find themselves. However, we do see India on the cusp of a sustained revival, which will drive economic growth and corporate earnings in the medium term," added Quantum Advisors CIO