RBI MPC: Much-needed pause

10 Apr 2023 , 11:51 AM

The RBI’s MPC finally paused on policy rate (at 6.5%) and maintained its stance — in line with analysts at IIFL Capital Services expectations, but positively surprising the market consensus (+25bps hike). RBI made marginal tweaks to GDP growth (6.5% vs 6.4% earlier) and inflation forecast (5.2% vs 5.3%) for FY24. However, we continue to be wary of growth slowdown both globally and in India (IIFLe FY24 GDP growth at 5.8%), while maintaining a benign outlook on inflation (IIFLe at 5%). Later this year, markets may be caught between rate-cuts and earnings recession.

Policy announcements in line with IIFL Capital Services expectations:

RBI MPC paused and maintained policy rates at 6.5% unanimously — as expected but positively surprising the consensus (+25bps hike). Accordingly, both SDF and MSF stand unchanged at 6.25% and 6.75%, respectively; no change in the CRR rate as well. The central bank maintained its current stance of withdrawal of accommodation (5:1 majority) — in line with analysts’ of IIFL Capital Services expectations. However, a section of the market was anticipating a change to neutral stance.

Optimism continues on growth, inflation forecast broadly aligned: 

RBI marginally upgraded its FY24 GDP growth forecast to 6.5% from 6.4% earlier (IIFLe at 5.8%). Quarterly break-up: 7.8% (Q1FY24), 6.2% (Q2FY24), 6.1% (Q3FY24) & 5.9% (Q4FY24). Analysts’ of IIFL Capital Services see risk to these numbers, as global slowdown led by monetary tightening impacts external demand, delays investment pickup, and also as Covid-led pent-up effects normalise.

Lag effects coming to fore – globally and in India: 

Ongoing banking crisis (SVB, Silvergate, Credit Suisse, etc.) in the developed nations has brought to fore the risk of aggressive monetary tightening and the need to pause for assessing lag effects. Further, we continue to be wary of growth slowdown, both globally as well as in India. In the US, PMI having been significantly below 50 for seven out of the last eight months, retail spending having been flat in real terms for two years, despite rising credit card balances and shrinking pool of excess savings generated during Covid are indicators of weakness. 

Markets may be caught between rate-cuts and earnings recession, later this year: 

Given all of the above, analysts of IIFL Capital Services feel earnings estimates will continue to see downgrades globally (S&P 500 CY24 EPS already downgraded by 10% in past six months). Later in the year, we may see central banks pivoting to rate cuts as slowdown becomes visible; and then, they could see the sentiment improve. On balance, we would advise portfolio construction with relatively high earnings visibility names. High-growth consumer sectors like Internet, may also do well in rate-easing cycle.

Expect steady INR and lower G-sec yields: 

In Q3FY23, CAD narrowed significantly to 2.2% of GDP from 3.7% in Q2. Preliminary trade nos for Jan’23 & Feb’23 show further contraction in merchandise trade deficit. Moreover, service exports continue to be strong and outlook for remittances stable. With FX reserve balance rebounding to $579bn and RBI’s active intervention in FX markets, we see INR staying stable within 81-84/USD. 

G-sec yields are down 5-10bps across the curve, since RBI surprised markets with a pause. Yields are headed lower with further tailwind from fiscal consolidation and lower govt borrowings.