What are the hints that we are getting from the US dollar index?
At the moment, the dollar itself is consolidating. The dollar has been strengthening substantially in recent months and running on the back of a sharp tightening in interest rate expectations that we have seen in the US, especially the front-end of the curve. Going forward, in the near term, we expect consolidation even if the Fed is somewhat more hawkish as it may double the pace of tapering to $30 billion per month ending QE in March.
It is largely in the price in our view and already the markets are pricing in close to three rate hikes next year from the Fed. It seems hard to see how much more we are going to see in terms of pricing even with a hawkish Fed. We may probably see a little bit more resistance in terms of further dollar strength in the very near term and consolidation is probably what we are going to see in the next few days around the Fed meeting.
Last week, RBI came out with a status quo policy for the ninth consecutive time and an accommodative stance. If the Fed talks about the rate cycle changing sooner than later which it already has to some degree, how will the Indian market react?
Globally liquidity is tightening. If the Fed announces acceleration in its tapering, it means the global liquidity conditions would tighten further. It would also come against a background where equity markets have been rising substantially, including in India. In recent months, Indian equities are outperforming when one looks at valuations and the liquidity picture.
In the coming days, it will not just be the Fed, but several other central banks will globally tighten policy. It perhaps does not bode as well for equities going forward. This comes at a time when you have got renewed concerns about the Omicron variant and also the increase in numbers of Covid infected globally. So that could also raise caution about risk assets including equities in the next few weeks.
Lots of changes are happening on the ESG front. If the ESG concerns were not there, the inflationary pressures would have not been that high. Do you think somewhere central banks would be cognisant of that? It is not only cheap liquidity, it is the ESG factor which is forcing China not to export, forcing lots of companies not to expand and creating a supply issue?
That is a good point. I would not say significant, but at least some inflation pressures have been caused by this. Clearly China’s shift towards less carbon usage, more environmental production has had a big impact on coal, steel, iron ore production and they pushed prices substantially higher in these products in recent months.