This week was all about headlines regarding yields flattening, inversion of the yield levels, and talking about whether a recession is impending or not. But markets are telling you something else.
Yes, markets are showing a lot more complacency than the data is pointing towards. Yesterday, Euro zone, inflation came in at 7.5% and European markets were still in positive territory. They have gone above their pre-war level so clearly that there is a big disconnect between the stock markets, what is happening in the economy and what the bond markets are showing. But my experience is that the bond markets are much more accurate predictors of what is in store. So I would be cautious. I have been cautious over the last three-four weeks. I have been warning the investors to be careful. I have been wrong over the last one week or so as the market has recovered fast.
But what are the three big factors right now that we are a little skeptical about which will have an impact on the markets? One is that geopolitics is largely out of the way. It is a contained war and it will be a lingering war until it gets played out. But it is not having that big an impact in terms of geopolitical sentiment. What it is having an impact on is geo-economic reality. It is having a huge impact on commodity prices. There is going to be a fertilizer shortage. There is already an agricultural shortage and that will get exacerbated. So, food shortages are coming in and inflation. Second is we started the year with the Fed signaling tightening and that is continuing. It will continue and May 3-4 will be a very pivotal event where we are expecting a 50 bps hike by the Fed largely discounted by the markets. The third part is what does China do? Morgan and Goldman both brought out reports where they are now putting that Chinese growth for this year at 4% on the COVID lockdowns. I think that is a very big trouble spot for the global economy and for global markets. So, how fast does the Chinese stimulus come in and how fast China gets out of zero COVID and lockdowns will be very decisive in the direction of the markets. Domestically, we are expecting some earning downgrades for about 50% of the companies which are price takers from the commodity complex. We are very positive on financials and happy to see Bank Nifty recovering. Energy, materials, real estate, cement, industrials are the sectors that tend to do well in a high inflation environment. Finally, what I would like to say even when the yield curve inverts, from the time of the first inversion till the recession setting in, stock markets tend to outperform. Even when the interest rate hike cycle starts for the first 12 months, US markets tend to outperform. So, we are not seeing a very big impact on the markets but a combination of all this and the easy money policy we have seen from 2008 onwards makes it a very uncharted territory that we are in. And we have not seen liquidity withdrawal, which is coming by.
The big talking point in the coming week would be the RBI monitoring policy decision. The experts now believe that it is possible that the commentary will shift at least a tad bit because they have been quite dovish. Do you expect the stance to change from accommodative to neutral and do you expect a rate hike coming already?
No for both of them, and I will give you the reason. In the last policy, they had forecast that inflation will cross about 6% and then it starts tapering down. That is not going to happen but that is due to supply chain and commodity side pressures which no central bank can really tamp down by interest rate hike. So, I would say that they will recognize this risk of inflation which is global, is commodity-driven, and they will say that this leads to risk on the growth side also. They will stay with the policy as at present. They will keep it at accommodative in name and no interest rate change. The third thing is that they have been taking out money from the market, so the liquidity splurge has stopped. To some extent, the tightening has happened. I think they will continue with that. They have been supporting the rupee which is an unstated policy. Credit growth is expected to increase but inflation but they really do not have a solution for it in the short term. I am expecting they will stay stick with this policy at least for this time, see what Fed does in May and then act around June.