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The shift in RBI’s stance came, but not in the repo rate as most people were expecting today.The Monetary Policy Committee ( MPC) decided to change the stance from neutral to “calibrated tightening” of monetary policy, which in plain English means that rate cuts are probably off the table, and RBI can decide on when to raise or not raise rates depending on how fresh data comes in.

Whilst a 0.25% hike in the repo rate was the consensus view of the expected MPC action today, with some even expecting a 0.5% hike, the policy statement surprised markets – bonds positively, equities and the rupee negatively, with RBI choosing to do nothing, as MPC members voted 5:1 in favor of an unchanged repo rate at 6.50%. This was also probably driven by the fact that there have been two consecutive rate hikes in the last two MPC meetings.

They stuck with their primary mandate i.e. controlling inflation, with the objective to achieve medium term target for CPI inflation of 4 percent within the range of +/- 2%, while supporting growth.

Since the last MPC meet in August 2018, the Indian basket of crude oil has increased sharply by US$ 13 a barrel, whilst global economic activity has been able to withstand ongoing trade tensions thus far. Food inflation has remained unusually weak, which imparts a downward bias to its trajectory in the second half of the year. The risk to the food inflation from a 9% deficit in the monsoon, is also probably mitigated by higher production of major kharif crops for 2018-19 than last year’s record. An estimate of the impact of an increase in minimum support prices (MSPs) announced in July has been factored in the baseline projections.

The projected inflation in Q2:2018-19 is at 4%, 3.9%-4.5% in the second half and 4.8% in Q1:2019-20 with risks on the upside, which were lower than earlier estimates.

With risks broadly balanced GDP growth projection for 2018-2019 was lowered at 7.4% against 7.5 % in August due to strong base effect.Private consumption has remained strong and is likely to be sustained even as the recent rise in oil prices may have a bearing on disposable incomes. However, both global and domestic financial conditions have tightened, which may dampen investment activity. Rising crude oil prices and other input costs may also drag down investment activity by denting profit margins of corporates. This adverse impact will be alleviated to the extent corporates are able to pass on increases in their input costs. Uncertainty surrounds the outlook for exports. The recent rupee depreciating could be negated by slowing down of global trade and the escalating tariff wars.

Global headwinds in the form of escalating trade tensions, volatile and rising oil prices, and tightening of global financial conditions therefore pose substantial risks to the growth and inflation outlook.

Your Investments

As we see change in stance from neutral to calibrating tightening signals that rate cuts are off the table. Concerns seem to be around crude oil prices, global interest rates and the ongoing global developments on the trade front. Equities continue to trade at a premium and whilst it may be very tempting to buy lumpsums as equities have fallen substantially, equity valuations in India continue to be elevated vis a vis long term averages. A gradual entry strategy or a continued SIP/STP strategy is most suited to the current market scenario. It may be a good idea to add fixed income exposure through a combination of largely ultra short term, short and medium term strategies focused on high credit quality portfolios, to avoid any spillover of the continuing bad loan cycle on your investments.

Your Loans

After hiking the repo rate twice in a row, the Reserve Bank of India (RBI) has kept the key policy rates unchanged. However, the central bank has changed its stance on the key policy rates to ‘calibrated tightening’. This indicates that RBI is of the view that there is upward pressure on interest rates which means your EMIs are likely to continue ti go up. Expect banks to raise rates gradually even though RBI kept rates constant today.

Way forward

The next policy is due on December 5, but don’t be surprised for mid course corrections if the data so warrants. Ultimately that’s what caliberated tightening probably alludes to.

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Today marked the 3rd Bi-Monthly policy statement by the RBI for the FY 2018-19 with members voting 5-1 in favor of a rate hike.

This was largely in line with market expectations and was already priced in, as post the release of the minutes of the monetary policy bond yields did not move much in either direction.

However, the MPC also continued to maintain a neutral stance, indicating that it is trying to play a delicate balance between inflation and growth, and decisions are being taken with the objective of achieving the medium term target for CPI at 4% within the range of +/- 2% and future data prints

The MPC mentioned that domestically various indicators suggest that economic activity has continued to be strong. Significant turn around in the production of capital goods and consumer durables, Progressive monsoon and increase in MSPs of Kharif crops are expected to boost rural demand by rising farmer’s income. Vehicle sales augur well for urban income growth.

Retail inflation i.e. CPI grew to 5% in June from 4.9% in May, driven by an uptick in inflation in fuel. Food inflation remained muted due to lower than usual seasonal uptick in prices of fruits and vegetables in summer months. Adjusting for the estimated impact of the 7th central pay commission’s house rent allowances (HRA), headline inflation increased from 4.5 per cent in May to 4.6 per cent in June. Low inflation continued in cereals, meat, milk, oil, spices and non-alcoholic beverages, and pulses and sugar prices remained in deflation. Factors mentioned above have resulted marginally downward revision in inflation projections for Q2 vis-à-vis the June statement. However, projections for Q3 onwards remain broadly unchanged on account of uptick of 20 bps in inflation expectation for 3 months and 1 year ahead horizon survey of households by RBI’s. RBI’s industrial outlook survey also reported higher input costs and selling prices in Quarter 1 of 2018-19. Input cost of companies polled in services PMI in June also stayed elevated. Farm and non farm input costs rose significantly in June.

The central government has decided to fix the minimum support prices (MSPs) of at least 150 per cent of the cost of production for all kharif crops for the sowing season of 2018-19. This increase in MSPs for kharif crops, which is much larger than the average increase seen in the past few years, will have a direct impact on food inflation and possible secondary impacts on headline inflation. Uncertainty around the full impact of MSP on inflation will only resolve in the next several months once the price support schemes are implemented and procurement by the government is visible.

Based on an assessment of the above-mentioned factors, inflation is projected at 4.6 per cent in Q2, 4.8 per cent in H2 of 2018-19 and 5.0 per cent in Q1:2019-20, with risks evenly balanced. Excluding the HRA impact, CPI inflation is projected at 4.4 per cent in Q2, 4.7-4.8 per cent in H2 and 5.0 per cent in Q1:2019-20.

The MPC notes that domestic economic activity has continued to sustain momentum and the output gap has virtually closed. However, uncertainty around domestic inflation needs to be carefully monitored in the coming months. In addition, recent global developments raise some concerns. Rising trade protectionism poses a grave risk to near-term and long-term global growth prospects by adversely impacting investment, disrupting global supply chains and hampering productivity. Geopolitical tensions and elevated oil prices continue to be the other sources of risk to global growth. On account of these risks, RBI governor stated that by keeping the neutral stance, the Monetary Policy Committee have kept the option of further rate increase or decrease open and dependent on future data.

With an election year upon us and possible fiscal risks emanating, along with global outflows on the back of higher US interest rates and a falling rupee, this may not be the last of the rate hikes in our view.

Your Investments

Financial markets have continued to be volatile and driven mainly by monetary policy stances in advanced and emerging economies and geopolitical tensions. Globally, equity markets have been volatile on trade tensions and uncertainty around Brexit negotiations. However, it also important that public finances do not crowd out private sector investment activity at this crucial juncture.

Capital flows to Emerging Economies declined in anticipation of monetary policy tightening in Advanced Economies. Also currency of Emerging economies have depreciated against the US dollar over the last month on account of strong USD supported by strong economic data.

Equities continue to remain overpriced from a price to earnings perspective in spite of recent corrections and a better growth outlook. However, good results so far by many companies, along with good growth expectations and better capacity utilisation bode well for earnings growth going forward.

Real rates continue to remain positive.The rising G-sec yield makes dynamic bonds and long term bond funds unattractive and the exposure to the same should be minimized. Bonds with a shorter duration of 3 months to 2 years are ideal in the given scenario. We therefore, continue to believe that investors should continue to have fixed income exposure through a combination of lower duration and short term strategies.

Your Loans

With an increase of 25 basis points by the RBI, the deposit rate of the banks could further increase which would be followed by lending rate hikes. Thus we suggest looking at prepaying or raising EMI amounts on your loans to negate the interest rate hike and future hikes that could follow.

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Today marked the second and much awaited Bi-Monthly policy statement by the RBI for the new FY 2018-19.

In line with what bond markets expected, the Monetary Policy Committee (MPC) delivered a 6-0 verdict on an interest rate hike by 0.25%. The was largely in line with market expectations post the release of the minutes of the last meeting and thus the bond market had only a marginal impact of this change.

However, the MPC also continued to maintain a neutral stance, indicating that it is trying to play a delicate balance between inflation and growth, and decisions are being taken basis news flow and fresh data coming in.

The MPC noted that domestic economic activity has exhibited a sustained revival in recent quarters and the output gap has almost closed. Investment activity, in particular, is recovering well and could receive a further boost from swift resolution of distressed sectors of the economy under the Insolvency and Bankruptcy Code. This is in general good news for the economy.

Retail inflation i.e. CPI grew to 4.6% in April. The decision to raise rates is therefore in line with the objective of keeping the medium term inflation at 4% i.e. well within the 2-6% range.

Since the MPC’s meeting in early April, the price of Indian basket of crude surged from US$ 66 a barrel to US$ 74. This, along with an increase in other global commodity prices and recent global financial market developments, has resulted in a firming up of input cost pressure thus persisting in a high CPI inflation projection for 2018-19. On the other hand the summer momentum in vegetable prices was weaker than the usual pattern softening the food inflation in the short term, though this has been more than negated by the changes in oil prices. Household inflation expectations have also moved up sharply and  pricing power seems to be on its way up as well.

Taking these effects into account, the projected CPI inflation for 2018-19 is revised to 4.8-4.9 per cent in H1 and 4.7 per cent in H2, including the HRA impact. Excluding the impact of HRA revisions, CPI inflation is projected at 4.6 per cent in H1 and 4.7 per cent in H2.

Crude oil prices have been volatile recently and since consumption, both rural and urban, remains healthy and is expected to strengthen further, all this imparts considerable uncertainty to the inflation outlook, possibly on the upside. With an election year upon us and possible fiscal risks emanating, along with global outflows on the back of higher US interest rates and a falling rupee, this may not be the last of the rate hikes in our view.

Your Investments

Geo-political risks, global financial market volatility and the threat of trade protectionism pose headwinds to the domestic recovery. However, it also important that public finances do not crowd out private sector investment activity at this crucial juncture.

In most Emerging Market Economies (EMEs), bond yields have risen on reduced foreign appetite for their debt due to growing dollar shortage in the global market and on prospects of higher interest rates in Advanced Economies.

Equities continue to remain overpriced from a price to earnings perspective in spite of recent corrections and a better growth outlook. However, signs of improved demand and pricing power for companies, along with good growth expectations and better capacity utilisation,  bode well for earnings growth going forward. Corrections into equities could therefore be bought into.

Real rates continue to remain positive.The rising G-sec yield makes dynamic bonds and long term bond funds unattractive and the exposure to the same should be minimized. Bonds with a shorter duration of 3 months to 2 years are ideal in the given scenario. We therefore, continue to believe that investors should continue to have fixed income exposure through a combination of lower duration and short term strategies.

Your Loans

Even before the RBI meet, the banks had begun hiking both their lending and borrowing rates. This rise in lending rates was brought about by the rapid increase in bond yields and increased loan demand, especially in private banks.

With an increase of 25 basis points by the RBI, the deposit rate of the banks could further increase which would be followed by lending rate hikes. Thus look at prepaying your loans with excess liquidity.

A 6-0 verdict is therefore a clear indicator that inflation targeting continues to be the MPCs primary role, and a conservative stance will probably give foreign investors a more positive view on India.

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Today marked the first Bi-Monthly policy statement by the RBI for the new FY 2018-19.

The MPC notes that there has been a recovery in growth on a domestic level and various structural reforms introduced will support further long term growth. The MPC recognizes the downside risk to private financing and investments as well as growth on both a global and domestic level is brought out by deteriorating public finances and rising trade protectionism.

The MPC stated that the GDP growth is projected to strengthen from 6.6% in 2017-18 to 7.4% in 2018-19 with H1 2018-19 reflecting growth in the range of 7.3-7.4% and 7.3-7.6% in H2 2018-19 supported by revival in investment activity and global demand.

The MPC revised down the CPI for FY 2018-19 to 4.7-5.1% in H1 and 4.4% in H2 (inclusive of the HRA impact) keeping in mind that factors such as the revised formula for MSP (minimum support price), impact of HRA, further fiscal slippages, a weak monsoon and volatile crude prices could all pose upward risks to the near term inflation outlook.

Amongst the midst of global and local market volatility in both the equity and bond markets, the monetary policy committee maintained their neutral stance and kept the policy repo rate and the reverse repo rate unchanged at 6 percent and 5.75 percent respectively.

5 out of 6 members voted in favor of the policy while one member voted for raise in rates by 25 basis points.

The 10 year G-Sec fell sharply from 7.3% levels to 7.12-7.13% indicating that the market is putting to rest any near term rate hikes.

Your Investments

While the RBI does talk about economic recovery as well as a possible sustained long term recovery one can not ignore the volatility brought about by the juxtaposition between global recovery and the possible trade war between the United states of America and China.

Equities continue to remain overpriced from a price to earnings perspective in spite of recent corrections. Real rates continue to remain positive and interest rates (benchmarked by the 10 year G-sec) have cooled down from their high ranges of 7.7-7.8%.

We continue to believe that investors should continue to have fixed income exposure through a combination of accrual, short to medium and hold strategies. Considering a large state loan calendar interest rates could revert back to an upward movement scenario and thus we recommend maintaining only a 10% exposure to dynamic bond fund that have the flexibility to move across bond maturities.

Your Loans

For the first time in 2 years banks started increasing interest rates indicating a change in rate cycle. This rise in lending rates was brought about by the rapid increase in bond yields.

The RBI has maintained status quo on rates and has allowed banks to spread their bond losses over 4 quarters. This action by the RBI could cause lending rates to stabilize.

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The universe of mutual funds within the Indian space is quite big; as per latest data on AMFI, to be precise. So it’s not particularly easy for an investor, especially a first time investor, to navigate through it to identify the right kind of mutual fund for his/her requirements.

In response to fund houses launching multiple schemes in one category, which confused investors, market regulator SEBI has come up with a new system for fund classification. The new system aims to bring uniformity to the schemes launched by different fund houses, thus facilitating scheme comparison across fund houses.

Based on the categories, mutual funds will be forced to either merge, wind down or change the fundamental characteristics of a particular scheme. This move could also have short term impacts on the portfolio on any investor depending on the schemes they have currently invested into.

As per the new classification, all open-ended mutual fund schemes will be placed under the following categories:

  • Equity
  • Debt
  • Hybrid
  • Solution-oriented
  • Others (index funds/ETFs/fund of funds)

Only one scheme per category would be permitted except index funds/ETFs, fund of funds and sectoral/thematic funds.

However, each of these categories will have sub categories:

  • Equity will have 10 sub classifications
  • Debt will have 16
  • Hybrid will have 6
  • Solution Oriented will have 2
  • Other will have 2 sub classifications.

That is a grand total of 36 classifications an investor can choose from.

As such, these new classifications will have varying impact on existing funds and consecutively on an investor’s portfolio. Such impacts could include:

  • Schemes will be forced to stick to their mandate:Funds often change their investing style based on market conditions. For example, a large cap fund may have sizeable mid cap exposure because its chasing higher alpha. But now, any drastic change will force the scheme to change its characteristics resulting in the same being communicated to the investors. So now the investor will not have to worry about the fund becoming something it originally was not set out to do.
  • Like for Like Comparison:As AMCs will have one scheme per category, it will be easier for the investor to compare the options available. All schemes of different AMCs of a category will have similar styles and characteristics, which will result in a “apples to apples” comparison.
  • Better choice by fewer options:With AMCs forced to ensure one scheme per category and fund labeling to be made in line with investment strategy, options will become lesser which should result in investors being more aware of their choice.
  • Need for review in the short term:With the latest mandates, one can expect a short period of fund houses realigning their products. As such, many schemes may end up being quite different they what they originally were. Therefore, investors may need to keep a thorough eye on their funds to watch out for any changes that may occur and act accordingly.
  • Possibility of reduction in performance:Like mentioned above, funds often change their investing styles to generate significant alpha. But after these regulations, alpha creation may be more difficult as the universe of stocks will be same for all schemes in a category. Furthermore, as per the latest mandate, if a fund wants to be categorized say as a large cap, it will have to invest only stocks defined as large cap as per regulations. So in the short term it may have to sell or buy some stocks which could have an impact on cost that would be borne by the investor. Also, as regulations would demand funds to rebalance their stocks as per the semi – annual publications of AMFI which enlist large, mid and small cap stocks, it may result in forced selling to accommodate any change in status of a stock, resulting in a possible negative impact on the performance of the fund.

Overall, while there may be short term practical hurdles for both investors and fund houses alike while adjusting to the new mandates, the general consensus has been that this move is a positive step taken by the regulators in the right direction as it will bring reliability and simplicity to investors. For any investor, it would be prudent now to get professional advice on how such changes may impact their own portfolios.

 

 

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According to Investopedia, “Geographical Diversification” is the practice of diversifying an investment portfolio across different geographic regions so as to reduce the overall risk and improve returns on the portfolio.

As with diversification in general, geographical diversification is based on the premise that financial markets in different parts of the world may not be highly correlated with one another. For example, if the US and European stock markets are declining because their economies are in a recession, an investor may choose to allocate part of his portfolio to emerging economies with higher growth rates such as China, Brazil and India.

There are two major advantages in diversifying one’s investment portfolio based on geography:

  • Taking Advantage of Opportunities in other Strong Economies:

A significant benefit to a geographic diversification of assets has to do with the way it allows you to mitigate risk by taking advantage of stable economies elsewhere in the world. It’s no secret that some economies are struggling to recover from the trying economic times of the last few years. Other countries, however, have seen higher growth rates due to a variety of factors. International portfolios have been shown, in general, to outperform domestic ones, this is because when there are so many markets to choose from, it is unlikely that the same country will ever repeatedly achieve the highest level of growth. With improved access to international markets and investment instruments such as mutual funds bringing down the costs, an additional option to further diversify has been to buy in international markets.

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(Source: Bloomberg, Kotak MF. As of 31st Jan, 2018)

The above returns data chart clearly shows that while the Indian Equity Markets have performed significantly in the last year, there were opportunities elsewhere which proved even better. Diversification into such economies can therefore result in better yielding portfolios.

  • Balancing out the risks:

While chasing better returns might definitely be one aspect of any investment portfolio, it is also crucial to understand how any strategy helps in mitigating the associated risks that are part of every investment decision. Geographic diversification provides a much needed balance that all investors strive for. If one of your assets is located in a part of the world that is or could be vulnerable, the investments in other geographies could compensate or buffer any unexpected losses. This is because despite the impact of globalisation, geographies and economies can still have limited correlation between them, and over time international markets could perform very differently to domestic markets. Following is a chart that shows how various sectors form part of some regions around the world, in % of total market capitalization:

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(Source: credit suisse global investment returns yearbook 2015)

As you may notice, different regions give different weightages to every sector. Thus by accessing these regions, you can in essence, reduce investment risks in individual sectors and therefore your entire portfolio as a whole.

Since the cycles that drive business and investment are experienced at different times in different countries, foreign markets seldom move in perfect tandem with each other. Losses in one market may be offset by gains in another. Geographical diversification significantly reduces the overall level of volatility and exposure to external factors. For an investor, theoretically this would mean that the more diversified your assets, the safer is your money. However it is true that a significant black swan event, such as the financial crisis of 2008, will likely deplete any such benefits, especially in the short term immediately after such an event. What is rather important to keep in perspective is (a) your investment horizon and (b) your risk taking capability to diversify into foreign markets.

 

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