Devangshu Datta: Brace for the speed bumps

Market operators everywhere will spend most of this week focused on the deliberations of the US Federal Open Markets Committee (FOMC), which meets this week. Whatever action(s) the FOMC opts to take and whatever guidance it gives will dominate mind-space.

Most traders are braced for a hike in the Fed Funds rate. Other central bankers are certainly prepared. Reserve Bank of India (RBI) Governor Raghuram Rajan says he thinks a hike is 75 per cent sure. The European Central Bank has eased pre-emptively.

There would probably be a knee-jerk effect on global markets after a Fed hike. But it would be minor if the hike is capped at 25 basis points. Given the US dollar's influence on world trade, there would be some volatility in currency markets. The dollar is likely to harden, not only due to Fed action but also because the yuan, yen and the euro are weak due to the policies of the respective central banks.

The effects of the Fed's guidance are imponderable. If the market thinks that the Fed is liable to continue hiking through 2016, there will be bearishness, even if the December hike is discounted. Most likely, the guidance will be dovish since Federal Reserve Chair Janet Yellen is inclined to gradualism. There is also uncertainty about continuity of American executive policy since a new president is due to be elected next November. There may be some market reaction if outliers do well at party primaries in January.

There are lots of India-specific macroeconomic data for traders to ponder. On the negative side, the goods and services tax (GST) seems stalled. The Congress agitation following on from developments in the National Herald case ensures that the GST will not be passed in the winter session of Parliament. If GST cannot be implemented in fiscal 2016-17, it will probably not be implemented at all during the term of this Lok Sabha.

On the plus side, the Index of Industrial Production (IIP) registered a positive change of 9.8 per cent year-on-year for October. But there is a Diwali effect. The October 2014 base was low due to Diwali falling in that month; Diwali this year was in November. It is possible that the November IIP will show a sharp drop when the inverse effect takes place. In any case, there is plenty of slack in manufacturing with 30 per cent of spare capacity according to the RBI. Part of that is due to falling exports.

Automobile sales registered strong growth, with passenger vehicles up 10.4 per cent year-on-year in unit terms. But we don't know how strong the actual sales were since those are dealer numbers. Anecdotally, dealers are said to be holding significant inventory. Retail industry watchers also confirm consumption was substantially down during the festive season.

November inflation data is due on Monday. The expectation is that retail inflation would have risen from the five per cent year-on-year change registered in October. Wholesale inflation, which was minus 3.8 per cent in October, may still be negative.

The sign divergence between year-on-year changes in the Consumer Price Index (CPI), and the Wholesale Price Index (WPI) is one reason that India's gross domestic product (GDP) estimates have been controversial. Nominal GDP is adjusted by using a deflator to account for inflation.

Applying a negative deflator boosted nominal GDP growth of six per cent to above 7.4 per cent for July-September 2015. A negative deflator is okay for manufacturing and agriculture. But 60 per cent of India's GDP is contributed by services. Services are not part of the WPI basket but included in CPI.

CPI was positive during July-September 2015. If a positive CPI-based deflator is used for services, the real GDP is computed as much lower. In fact, the numbers suggest there has been little acceleration of growth since the Bharatiya Janta Party-led National Democratic Alliance came to power. Improvements in public finances appear to have been driven by lower energy fuel prices. Of course, crude has gone into another spiral of lower prices so the good fortune on that front continues.

Meanwhile, Rajan reiterated worries about bad loans and bemoaned the ability of large debtors to block loan recovery. Estimates suggest that between 12-15 per cent of outstanding bank credit is "stressed". Writing that off and recapitalising the banking system to meet Basel III norms will be tough in both financial and political terms.

There has been an improvement in sentiment in the primary markets. Corporates raised about Rs 18,250 crore between April-November 2015, which is way better than the Rs 9,800 crore raised in the entire 2014-15 fiscal. Apart from this, the disinvestment programme has raised Rs 12,701 crore so far, which is well below the targeted Rs 69,500 crore.

Foreign direct investment flows (FII) have been about 15-20 per cent better than in 2014-15. But the FIIs have been net sellers in 2015-16. In November and December (till December 10), FIIs sold rupee equity and debt. Domestic institutions have been net buyers, however. There has been a rise in the flow of household savings into financial instruments.

Technically speaking, the market looks set to test support at Nifty 7,500-7,600 level, where it hit 52-week lows in August-September. If the index drops below 7,500-7,550, it could slide till 7,200 before it hits the next strong support.

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