Last week, the domestic market traded in a narrow bracket from 19,350 to 19,450, after a mild gap up, and was late to cross 19,500. Following the Diwali holiday, the market started the current week with a big gap up, rising notably past 19,600. The week ended with the market closing at 19,731.8, reaching a peak of 19,875, which is the maximum observed in the previous month, October.
The rapid and wide-ranging change in market sentiment is driven by a global factor, stemming from a larger-than-expected decline in global inflation data. The US October CPI fell to 3.2% from 3.7% in September. Elevated inflation and its consequent impact on bond yields, coupled with tight monetary policy, pose serious challenges to the global stock market. The market responded immediately to the data, experiencing relief exceeding expectation. Later, bond yields fell below 4.5%, about 25bps on a WoW basis. This optimism is reflected in the 2.1% WoW gain of the US index S&P500, closing on Thursday.
There is a growing outlook suggesting that the Fed’s hawkish stance may ease, possibly resulting in more dovish rates in 2024. This speculation is gaining momentum as the economy appears to have broken free from the constraints imposed by pandemic-induced low capacity, with supplies rebounding. to a more normal state. And central banks are trying to reduce money supply in the system to curb inflation. And well, geopolitical risk is narrowing, and crude prices are on a downward slope.
However, the concern is that the governments are still continuing their big fiscal program with an elevated fiscal deficit. National elections are coming up in the US and India next year, which is all the more reason to keep going. Household consumption is high, driven by a high amount of free cash, and a low unemployment rate. Therefore, there is still a risk that inflation will continue to be above the normal range for a sustained period, limiting the rebound accumulation.
US CPI and Bond Yield Trend and Forecast…
Source: Bloomberg
Economists foresee a prolonged period of inflation above the long-term average, with consequential effects on bond yields, a factor that does not bode well for economic and market prospects. Central Banks are in the drill to produce a slowdown to control inflation. They will continue to keep rates high to achieve that program unless a deep slowdown emerges, the chance of which has diminished. For example, the probability of a US recession has been reduced to 55% from 65% in January 2023, stating that the economy is strong.
Therefore, a deliberate economic slowdown is anticipated, which may not favor the stock market in the medium term. To begin with, business and earnings slowdowns may weigh down, and the Fed will keep rates high to curb inflation below the long-term average. As US GDP growth for CY24, it is expected to reduce to 1% from 1.9% and 2.3% in CY22 & CY23, respectively. While India is projected to maintain resilience due to a stable domestic economy and dispersed external demand, but valuations may contract due to a reduction in financial liquidity.
The RBI, anticipating a risk in the system of excess liquidity, measured raising the risk weight of unsecured loans from 100% to 125% and credit cards from 125% to 150%. This may be in anticipation of increase in NPAs and very much for categories like Credit Card and Personal Loans, in future. And to protect banking equity and reduce the outflow of funds to high-risk assets. This will have a moderate impact on the bank’s revenue growth, with an increase in loan accounts especially for NBFCs, fall in consumer demand and flow of liquidity in the economy.
The author, Vinod Nair, is Head of Research at Geojit Financial Services.
Disclaimer: The opinions and recommendations made above are those of individual analysts or trading companies, and not of Mint. We advise investors to check with certified experts before making any investment decisions.
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Updated: 19 Nov 2023, 12:51 IST