Fed likely to lift rates on July 26; how can it impact the market, rupee?

The US Fed, like many of its global counterparts, has been working hard to bring inflation sustainably down since last year. But it doesn't seem like the Fed's fight against inflation will stop anytime soon. The US Federal Reserve, most probably, will increase interest rates by 25 basis points on July 26, and they may do another increase before the end of this year.

During their policy meeting in June, the US Fed decided to keep the benchmark federal funds rate steady within a range of 5 per cent to 5.25 per cent. If the Fed decides to raise the rate again at their meeting on July 25-26, it would, as per reports, reach the highest level seen in 22 years.

In June, the Federal Reserve decided to take a break from raising interest rates to assess the effects of the previous 10 consecutive rate hikes. However, analysts have observed that the Fed can't afford to keep pausing for too long because, even though inflation and the job market in the US are cooling, they are not cold enough for the Fed to relax its fight against inflation.

How can Fed rate hike impact the Indian market, the Indian rupee?

Rate hikes are bad news for the stock market. But as the market is already expecting it, it may not give a strong jolt to sentiment.

"Another 50-basis point rate hike by the Federal Reserve seems to be already factored in by the financial markets. Consequently, the likely 25 bps rate hikes in each of the next two policy meetings are unlikely to result in a significant change in either the Indian equity market or the external value of the rupee. In contrast, if the extent of rate change by the Federal Reserve is either higher or lower than the current expectations, that can move the market considerably," said Sujan Hajra, Chief Economist and Executive Director, Anand Rathi Shares & Stock Brokers.

A more hawkish Fed, however, can deal a blow to the market.

Shey Jain, CEO and Founder of SAS Online believes the market's reaction to rate hikes can vary as it depends on factors such as the timing and magnitude of the hikes, as well as market expectations leading up to the decision.

"The impact on the Indian market and the rupee can be significant. Firstly, a rate hike by the US Fed can result in capital outflows from emerging markets like India, as investors may seek higher returns in the US. This outflow of capital can exert downward pressure on the Indian stock market. Secondly, a rate hike can lead to an appreciation of the US dollar against major currencies, including the Indian rupee. A stronger dollar can make imports costlier for India and impact the country's current account deficit. Moreover, if the rupee depreciates against the dollar, it can increase the cost of servicing India's external debt, which is mostly denominated in US dollars," said Jain.

Jateen Trivedi, VP of Research at LKP Securities believes the further rate hikes by the US Federal Reserve will create volatility and uncertainty in global financial markets. This can impact investor sentiment, potentially leading to increased market volatility in India as well.

Trivedi said the rupee will see a weak trend on any price rise and will keep taking resistance until there is a final figure on rate pause and the Fed hints of a rate cut.

The market and the Indian currency may see some volatility after the Fed increases rates but it is unlikely that there will be a deep selloff in Indian stocks and currency as the domestic market's outlook remains robust for the medium to long term.

Deepak Jasani, Head of Retail Research at HDFC Securities pointed out that the Indian equity markets so far have not seen any adverse effect of the rate hikes in the US even as the RBI may continue its pause mode. However, it is not known at what point will rate hikes impact the global risk appetite.

Jasani is of the view that if a rate hike impacts global sentiment, it could have a negative effect on Indian equity markets too.

As far as the Indian rupee is concerned, Jasani said the widening rate differential between India and US could bring some more pressure on the rupee. However, so far, the constant FPI flows have mitigated this to an extent. The rupee could reverse its trajectory if the US dollar index starts to weaken due to worries about its economy, said Jasani.

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