
Why Fed dashes equity investors’ hopes

Summary
- The Fed has now done enough to make policy clearly restrictive, and intense downward pressure on inflation is building in the pipeline.
The much-awaited Federal Open Market Committee (FOMC) meeting is out of the stock market’s way, but has left equity investors a bit clueless. For the fourth time in a row, the US Federal Reserve raised its short-term borrowing rate by 75 basis points (bps), with the target range now at 3.75-4%. Considering raging hot inflation, the quantum of interest rate hike was largely pencilled in.
However, Powell’s comments disappointed equity investors. The ultimate takeaway for the stock market from this meeting is that investors must brace for smaller rate hikes from here on, and the terminal rates would be higher than previously anticipated. The announcement has crushed investors’ pause or pivot hopes. A pivot refers to the point at which the US Fed reverses its existing monetary policy stance.

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Needless to say, inflation, employment and housing data prints from the US will be crucial in the run-up to the December FOMC meeting. Monetary policy measures yield results on economic activities with a lag and the US central bank does acknowledge that. So, the Fed’s ongoing aggression to tame inflation at the cost of a recession is bothering some market experts. The worry is that the risk of a hard landing of the US economy continues to rise.
The Fed has now done enough to make policy clearly restrictive, and intense downward pressure on inflation is now building in the pipeline, said Ian Shepherdson, chief economist at Pantheon Macroeconomics. “Powell must know he is taking real risks with the economy. We think core inflation peaked in September, so the Fed now is in uncharted territory, promising to continue raising rates," he said in a note on 3 November.
For now, there is no respite for equity investors from the spectre of interest rate hikes. “Regardless of how large the next rate hike is, financial conditions likely will continue to tighten. Fed tightening cycles are often characterized by high volatility, especially in riskier segments of the markets," said Collin Martin, director and fixed income strategist at Charles Schwab.
Unsurprisingly, equity investors’ sentiments took a hit on Thursday with key Asian markets reacting negatively to Fed’s comments. Indian stocks saw a relatively modest decline with the benchmark index Nifty 50 closing 30.15 points lower.
“One factor that may have been working in favour of Indian stocks is the change of heart by foreign institutional investors (FIIs), who have recently turned buyers. However, for how long this trend will continue is anybody’s guess," said Deepak Jasani, head of retail research at HDFC Securities. In the immediate near-term, the Indian market may have made a top, but scaling meaningfully higher levels from here on will be challenging, he said.
Future rate hike concerns aside, the September quarter earnings season, which is underway, is crucial for Indian equity investors. So far, it has been a mixed bag, analysts said. The banking, financial services, and insurance sector has shown improvement in performance, but companies in the fast-moving consumer goods (FMCG) and cement sectors have experienced stress on operating margins. There are not enough triggers that signal an earnings upgrade, Jasani said.
Meanwhile, the MSCI India Index continues to command a valuation premium to its Asian peers. The country enjoys a higher price-to-earnings multiple as its macro-economic outlook is expected to be relatively better. Even so, potential risks from volatility in crude oil prices should be watched out for. India is a net importer of this commodity and the Indian rupee has seen a steep depreciation against the US dollar, lately.
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