Chief Economist at the National Stock Exchange of India
The inflation problem is not going away, it would take a while for central banks to get it back under control, and the price to pay might just be a recession, unavoidable after all, despite all the assurances to the contrary. Interest rates across major economies would need to rise higher, and possibly faster, if a re-run of That ‘70s show of high inflation and stagnant growth is to be avoided. A 75bps hike by the Fed, the highest since 1994, and closer home, a 50bps hike by the RBI would not do the trick, not yet. Markets across the world have finally woken up to the reality of high inflation, tighter monetary conditions and slowing growth, with the sell-off in May getting protracted into June and meaningfully so. The S&P 500 index fell 11?rlier this month, getting to bear market territory before a bounce-back in the third week of the month. As we write, most global indices remain in the red. The MSCI World index is down 20% YTD, as of June 28th, and the MSCI EM index only marginally better, down 16.4%.
Indian markets reflected the sell-off and pullback in global equities, but to a smaller extent, thanks to sustained buying by domestic institutions and retail investors. Market benchmark NIFTY50 corrected by 3% in May, underperforming both developed and emerging counterparts, and by a further 4.4% this month and is down 9.7% YTD.
After a brief respite in May, global bonds saw an extended sell-off, driven by the Fed’s 75bps rate hike with a promise of more to come and increasing signs of a US recession sometime next year. This led to rising yields across the board and a flattening of yield curves across all major markets. The extended Russia-Ukraine conflict and the sanctions that followed looked set to result in a Russian bond default for the first time since 1998, given the inability to service payments through the global financial system. Closer home, the RBI’s 50bps hike earlier this month following a surprise off-schedule 50bps hike in early May contributed to the steady, front-ended rise in yields. The spread between the 10-year and the 2-year bond has dropped to levels last seen in Mar’20. More on what has been an eventful month in our Market Roundup.
Market movements this year have been on broad themes of global macro-driven FII sell-off with increasing share of domestic players. Our quarterly analysis of the ownership trends of the market shows retail share at near 15-year high levels (9.7%), and the combined share of domestic institutions (Banks, Insurance, Mutual Funds) and retail at 21.7% now compares favourably with the institutional share of foreign ownership. Our analysis of exchange turnover across market segments shows retail investors to be net buyers for nine consecutive months to May’22.
Our 4QFY22 earnings review finds topline growth of ~22% for the NIFTY500 universe, with net profits rising ~25%, led by commodity sectors (Materials, Energy), and Financials, even as the growth momentum now moderates further, with rising input costs and consumption slowdown disproportionately hurting the smaller companies. Consensus earnings have been revised downwards by 1.4%/1.9% for FY23/24 in 2022 thus far, with the NIFTY50 Earnings Revision Indicator now deep in the negative territory.
Inflation may be the single most pervasive issue in the economy, but latest MOSPI data allows us to illustrate how it differs across states in the country. We juxtapose price levels in May’22 vs. a year ago and find significant difference in the spread of inflation across the country, with some stand-out categories like Fuel & Light. We also illustrate how states differ in capital formation and fiscal balances.
On the macro front, 4QFY22 GDP at 4.1% (vs. 5.4% in 3Q) reflected Omicron-related restrictions and rising inflationary pressures. Overall growth for FY22 at 8.7% was on a low, negative base (-6.6% in FY21). Real GVA growth was lower at 8.1%, netting off the tax-subsidy gap created in FY21. We maintain our FY23E GDP estimate at 6.5% with risks skewed to the downside, amidst deteriorating macro conditions. The May’22 CPI inflation print of 7% may have moderated from April’s eight-year high of 7.8% but remained outside the RBI’s tolerance limit of the 4+-/2?nd. The RBI’s Consumer Confidence Survey now finds a steadily rising trend of both current and prospective inflation expectations.
Our Insights section this month spans ESG, market indices and insightful whitepapers from the literature. The first article from the EPR team looks at the state of sustainability reporting in India and the evolution of the BRR into the BRSR framework we see today. Our next article examines India’s positioning from another important segment of the ESG value-chain, the asset managers. We compare India’s stewardship codes from various regulators with that of other countries, and the implementation by mutual funds. A new paper by the NSE Indices team provides a thorough performance evaluation of the NIFTY Non-Cyclical Consumer Index over short, medium and long-term horizons. A highly cited paper summarised by the CBS team at IIM Ahmedabad examines how foreign firms in emerging markets deal with policy uncertainty. Another summary by the team explores the impact of internet memes on investor sentiments. A highly cited paper summarised by the CAF team at the Indian School of Business introduces us to the technique of IPCA (Instrumented Principal Components Analysis) and how it outperforms conventional factor models in explaining cross-sectional returns. Another paper by the team informs us that market momentum does exist, even at an intraday level.
Our call for the 2022 NSE-NYU Conference received well over a hundred applications. Final grant announcements, six in all, would be made by the middle of July. We look forward to welcoming you in December.
Recovery since the pandemic has been divergent across developed and emerging economies, with the latter only belatedly returning to pre-pandemic levels. The steadily rising cost of capital would engender a recession for some, much worse for others. India’s macro fundamentals are on a relatively better footing, but the heady combination of rising rates, commodity prices and high inflation have brought back the spectre of the twin-deficit problem we had so happily left behind in 2013-14. In the last seven years, the Indian economy has come a long way, from a vulnerability perspective. Our forex reserves have more than doubled, there is hardly any oil subsidy to speak of overall trade has bounced back strongly after the pandemic, and the RBI’s liquidity management, supply of credit, and steering the economic growth trajectory during the pandemic was exemplary. We are in a much better position to face these headwinds.
However, CPI inflation rose during the pandemic and then remained high, despite having an MPC with an inflation targeting framework in place since 2016. While the debate on the growth vs inflation trade-off continues, it is to be noted that rising and steady inflation levels relatively affect emerging economies more, and within them, their economically vulnerable sections. Facing the macro challenges of the next few quarters would involve a clear choice in that trade-off.