Jul 28th 2022

Near-term outlook is positive & long-term is still negative for markets on Fed rate hike

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G-sec & INR might see pullback in the near term as inflation growth expectations are lower and Fed seem to be reducing the pace of rate hikes. Long term outlook is negative amid...

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C S S Nikhil Bhargav

Fed hikes interest rates by another 75bps in their second consecutive policy-meeting amid strong wage growth and rising inflation. UST yield curve remained inverted with 2-year UST at 3% and 10-year UST at 2.78%. Market participants widely expected 75bps rate hike from Fed as the inflation in US touched 9.1% in June 2022 and unemployment rate stood at 3.6%, wall street indices witnessed short-covering as there were no surprises from the Fed during the latest policy-meeting.

G-sec, Sensex, Nifty, and INR have declined sharply in 2022 due to Fed’s aggressive rate which resulted in FII capital outflows. Going forward, G-sec & INR might see pullback in the near term as inflation growth expectations are lower and Fed seem to be reducing the pace of rate hikes. RBI might have to hike rates faster to stem INR further fall against rising USD and bring inflation levels back to targeted range.  In the longer term outlook is still negative given headwinds of high government debt, inflation and falling liquidity.

 Fed policymakers guided that they would lean on data points for future rate hike pace and are completely keen on bringing  inflation back to the 2% range even if economic growth slows down.

Commodity prices have cooled off from record-highs amid weakening demand from China due to real estate market crisis and rise in Covid cases but, energy prices are elevated which would be the key catalyst for near-term inflation growth. Due to high base growth from last year and decline in commodity prices, inflation growth is capped for now but escorting inflation back to the central bank’s targeted zone is going to be a tough task for policymakers.

Fed policy-meeting highlights

  1. Balance sheet size to declined by USD 95 billion from month of September 2022
  2. Fed interest rate range is now 2.25%-2.5%
  3. Inflation and jobs data will guide pace of rate hike in September policy-meeting

Fed interest rate chart from 2006

Chart, line chart

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Source - CNBC

Source - NSDL

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