US Fed keeps markets guessing

Rising bets of a rate hike in September could weigh on Indian markets

The markets are likely to remain under pressure as investors will be divided over whether the US Federal Reserve (Fed) will raise interest rates in September or will push it forward by a few months.

At Friday’s keenly watched  Jackson Hole meeting, Fed Chair Janet Yellen said the case for raising interest rates had “strengthened” but did not provide the timeline. Playing the good cop, Yellen said if and when the Fed were to decide to raise rates it would be gradual. Fed vice-chairman Stanley Fischer played the bad cop, and said an increase was a possibility in September.

The comments saw US stocks give up gains to end lower, while yields on US treasuries climbed. Going by the reaction in US markets, Asian and Indian ones are likely to open lower on Monday, as bets on a September hike have increased.

Tightening of interest rates in the US is likely to lead to a reversal in foreign flows into India. Foreign institutional investors (FIIs) have been strong buyers of Indian equities since July, having pumped in nearly $3 billion. Foreign inflows, however, were seen slowing in the run-up to the annual meeting of US policymakers at Jackson Hole amid an appreciation in the dollar against most global currencies. Rising bets of a sooner-than-expected hike are likely to weigh on markets.

"There is a less than 50 per cent probability of a hike in September. There is a slightly higher chance of one happening in December, which may be marginally negative for India. But, since the markets have sufficient time to digest this information, the possibility of major outflows from India at this point is low," said U R Bhat, managing director, Dalton India.

“Yellen’s statements reiterated the Fed’s belief that the US economy is on its way to stable growth, a low unemployment rate and moving close to the inflation target of two per cent. This increases the probability of a rate hike in the next few months,” said Mihir Vora, chief investment officer, Max Life.

After a stellar rally in July, Indian equities have entered a consolidation phase. The benchmark indices posted a second straight weekly loss on Friday. The Sensex closed at 27,782, while the Nifty ended at 8,573. Both indices came down marginally this month, despite FII inflows of over $1 billion.

Recent comments from the Fed speakers indicate policymakers are preparing the financial markets for a rate hike in the near term, said experts.

The comments have also put a spotlight on the US jobs data, due early September. If employment in the US continues to show improvement, the hike could happen as early as next month, say economists.

“If we get a really strong employment report, say 200,000-plus, with a much higher wage growth, then they would find it very difficult to resist a hike, probably in September, but definitely by December,” Mohamed El-Erian, Allianz SE’s chief economic adviser said to Bloomberg.