Don't Worry About Fed Rate Hikes

Hello, friends. This is Vijay Bhambwani. I hope my videos are helping you decipher the market signals better.

In this video, I want to talk to you about whether you should really bother too much as far as the Indian equity markets are concerned, whether you should really be bordered or frightened or worried or concerned too much about the prospects of the US Federal Reserve resorting to tapering.

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Now what is tapering? Tapering is basically either slowing down, a complete withdrawal or even a reversal of financial stimulus. Stimulus, meaning providing monetary support to the economy and/or the financial markets.

So people are now saying that once the US will start tapering, we don't know whether this bull market is likely to sustain or not. There are some concerns. There are some fears, and I would like to offer my two cents on this subject. Before we moved forward, I would like to specify a couple of things.

Number one. I am not talking about day trading because this is a macro issue. This is a longer term picture. It is a bigger issue here.

Number two. I am not saying that the Indian equity markets will not correct at all. All I am saying is whether tapering will be the issue that will trigger the correction or not.

And number 3, when I am talking of outperformance, outperformance is a subject of relative performance.

So if the overseas markets go up by 1,000 points and the Indian market is going up by 1,200 points, that's rising more in a bull market. And if the overseas market falls 1,000 points and the Indian market falls only 800 points, that means it's falling less during a bad or down phase. Now that is outperformance. It's not that the markets don't fall at all. It just means that our markets will fall lesser. Now that is relative outperformance.

So now let's proceed. So is tapering something that should be giving you sleepless nights. In my humble opinion, I think you should not be a too concerned with tapering for a couple of reasons.

Now you see an old Wall Street saying goes that easy and abundant money supply is like mother's milk to a bull market. Now we all know new born babies actually multiply their body weight in the first one year, primarily surviving on mother's milk. Now easy and low cost money is mother's milk to a bull market. It sends the values of financial assets geometrically upwards.

So far, thanks to the covid pandemic, led by the US Federal Reserve, global central bankers were either cutting rates and/or offering money printing, unbacked currency printing and injecting that into the economies and in their financial markets. So easy and low cost money was an abundant supply. So bull markets were being triggered.

Now that tapering is starting, the primary reason for the bull market, which is easy supply of money, is going to come to an end. But you must see in relative comparison as to whether the cost of funds in India are or were as low as they were in the United States, in Europe, in other parts of Asia or Asia Pacific, as well? The answer is no.

If you see the US fed funds rate and you check India's 10-year benchmark bond yield, you will very clearly see that Indian bond yields are now close to 6.60%. That is more than five times the rate that you would get in the United States.

So where cash carry trade is concerned now, cash carry trade is, you take money out of a lower yielding economy, transfer it to a higher yielding economy, in this case, low yielding economy is US, high yielding economy is India. So you take money out of the US and you invest it in India. You get higher yields. This is cash carry arbitrage.

So our interest rates had not really fallen as much as the US and even after the US raises rates and mind you the US will raise rates by 15 to 25 basis points, which means 0.15% to 0.25%, of course, in multiple, on multiple occasions. They won't just raise it up in one shot, in one go. It will happen a couple of times. Do remember, in spite of all the rate hikes, the US will still not be able to offer 6.6 or 6.5 that the Indian benchmark bond yields are offering.

I take the case of Peru. I remember when I talked about the bond markets on multiple occasions in the year 2019, 2020, and 2021, I am a big fan of the bond market because it is the source of all money supply which funds the rallies in other asset classes, whether it is commodities, equities or currencies.

So I remember when we talked about the bond markets I gave the example of Peru. Now Peru's economy, as a Latin American country, is far weaker than India. Peru also has international loans. Now in 2021 when Peru was re-negotiating its loans with the international creditors, when they found that they could not easily roll over their loans, means extend their loans, Peru simply increased the interest rate and guess what?

They basically got an extension of the loan of an amount somewhere close to US$10 bn. A small amount. But like I said, the Peru's economy is not half is being as the Indian economy and even then, even then, the rate that sovereign debt that Peru incurred, attracted an interest rate of 3%.

India is as it is, offering 6.6% per annum with a robust a legal framework in place, a fairly large equity markets, tried and tested for almost 30 years by the foreign investment institutions.

I also remember making a video last year about how the Indian bonds are now going to be a part of the MSCI or Morgan Stanley Capital International, global bond index. So you see, what will happen is once the Indian sovereign debt is included in international bond indices, FIIs will have to start investing in the Indian bond market.

So while we are so used to the idea of seeing FII inflows into equities, there is a silent revolution or a paradigm shift taking place as far as the FII inflows into the country are concerned. You now have to look at how much money will come in through the bond market or the debt market route and not just about equities.

As a matter of fact, people who cut their teeth in the market 3, 3.5 decades ago will instantly identify with what I'm saying. In order to be able to trade any other asset class effectively, you must, must, and must follow the bond market first.

Now, suddenly the Indian bond market is coming off age, which is why a whole lot of working capital requirements will be taken care of by these inflows. Which is why I think the Indian equity market need not get hiccups, fits of hysteria or panic attacks or insomnia or lack of sleep due to the US Federal Reserve tapering its economy.

Yes, there would be other domestic issues which might result in corrections in prices. But as far as I am concerned, the US tapering might just trigger a small correction. Do remember, I am saying the markets might fall, but they will fall less than what the other markets will fall. To that extent, the Indian market will remain an outperformer compared to the western markets.

So banish your thoughts of any worries on the US tapering. We have inherent strengths and our interest rates are far higher than the other economies that we compete with.

On this positive and optimistic note, I bid goodbye to you not before reminding you to click like on this video if you liked what you saw. Subscribe to my YouTube channel if you haven't already done so. Click on the bell icon to receive instant alerts about fresh videos being put up out here.

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Friends, thank you for your patience and watching my video. Till we made again in my next, this is Vijay Bhambwani signing off. Do take very good care of yourself, your health, and stay away from the Omicron virus. Take care. Bye.