Mumbai: After a major sell-off this year, the BSE Midcap index gained nearly 1% on Thursday, outperforming benchmark indices, its biggest single-day rally since 28 December 2018. The Reserve Bank of India’s (RBI's) dovish stance and surprise rate cut fired up the small and midcap stocks, with the rate cut decision after the interim budget expected to boost consumption demand further and lower the cost of capital. The BSE Midcap index closed up 0.74%, while the BSE Smallcap index ended up 0.84%.
The benchmark Sensex fell 4.14 points, or 0.01%, to end at 36,971.09 on Thursday.
So far this year, both the BSE Midcap and the BSE Smallcap indices are down around 6% against a gain of 2% by the Sensex and the Nifty. In 2018, the BSE Midcap index fell 13.38%, while the BSE Smallcap index was down 23.53%.
According to Rusmik Oza, senior vice-president and head of fundamental research, Kotak Securities, the interest rate decision by the RBI was already factored in by markets, which drove the rally on Wednesday.
“The rally in midcaps started on Wednesday itself after the Nifty hit the 11000 mark. There is an expectation that midcaps will catch up with the rally in benchmark indices. After today’s RBI policy, cost of capital for corporates will go down, which have made investors a bit comfortable in these midcap stocks. The increase in circuit filter in some of the midcap stocks were enhanced, which boosted confidence."
However, Oza does not think that the Nifty does not have much steam to move up and hence midcaps are also not expected to continue the rally for long.
The RBI reduced the repo rates by 25 basis points (bps), delivering its first rate cut in 18 months and changed its policy stance from ‘calibrated tightening’ to ‘neutral’ unilaterally, thereby increasing the probability of further rate cuts in the future.
According to Dhananjay Sinha, head of research, economist and strategist, Emkay Global Financial Services, the combination of reflationary budget last week along with monetary easing by the RBI will provide further boost to consumption demand. The RBI also further relaxed the external commercial borrowing (ECB) norms for corporates wherein they can borrow up to $750 million through the automatic route, without the restriction of end use to repay existing rupee loans.
This has made analysts concerned that relaxation of ECB norms for corporates may expose them to currency risks going forward.
“This measure can provide short-term respite to the BFSI sector and also stressed corporates. However, this will also expose Indian corporates to currency risks going forward even as it fails to address the core issue of credit risk," Sinha added.
Meanwhile, the yield on the most-traded 2028 paper was trading at 7.595% from its previous close of 7.610. The yield on government bonds due in January 2029 was trading at 7.319% from its previous close of 7.358%. Bond yields and prices move in opposite directions.
“Debt markets cheered the rate cut with short-term bonds seeing a 15-20 bps move, while the medium-to-long bonds space saw a 5-10 bps move. The market reaction to the rate cut on the long bonds space is likely to remain subdued on continued concerns on bond supply in the system. Further, the RBI hinted on need-based open market operations (OMOs) likely denting demand for G-Secs, given the liquidity in the system has moved from deficit to neutral," according to R Sivakumar, head, fixed income, Axis Mutual Fund.