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Tuesday, June 25, 2013

Is the Selling Over Done?
Probably yes!! To get some more clarity let us take a look at the events last week. On last Wednesday, we learnt that the Federal Reserve will continue its program of purchasing $85 billion in securities and will leave the target interest rate for federal funds untouched to support the U.S. economy. Here's a summary of the state of the U.S. economy from the Fed, which concluded two days of meetings last week:
        "Information received since the Federal Open Market Committee met in May suggests that economic activity has been expanding at a moderate pace. Labor market conditions have shown further improvement in recent months, on balance, but the unemployment rate remains elevated. Household spending and business fixed investment advanced, and the housing sector has strengthened further, but fiscal policy is restraining economic growth."
Now, we also know that to bolster the U.S. economy, the Federal Reserve has spent $85 billion in stimulus measures every month, purchasing a mix of Treasury bonds and mortgage-backed securities. It has also worked to keep interest rates low, in an attempt to encourage borrowing by businesses and households. What the market-men probably missed is a series of statement which does not point towards a sudden cut in the bond buying programme. Let us examine a few of them. 
(i) "A decline in the unemployment rate to 6.5 percent" would not automatically trigger a move to raise interest rates, Chairman Ben Bernanke said at a news conference following today's policy update.
(ii) The Federal Open Market Committee's statement also said that inflation had remained below the panel's long-term goals, and that there is no reason to believe that will change. Here's the portion of the release dealing with interest rates:
   "In particular, the Committee decided to keep the target range for the federal funds rate at 0 to 1/4 percent and currently anticipates that this exceptionally low range for the federal funds rate will be appropriate at least as long as the unemployment rate remains above 6-1/2 percent, inflation between one and two years ahead is projected to be no more than a half percentage point above the Committee's 2 percent longer-run goal."
(iii) Bernanke also said the committee could taper off its purchase of securities later this year, echoing a statement he made last month. But he added that the Fed would still hold the securities it has purchased. And here's the part about the monthly purchase of securities:
    "To help support a stronger economy... the Committee decided to continue purchasing additional agency mortgage-backed securities at a pace of $40 billion per month and longer-term Treasury securities at a pace of $45 billion per month."
In general, the Fed's projections for the U.S. economy were more optimistic than in recent sessions, with policymakers saying they see reduced risks since last fall. This changed sentiment has led many investors to believe the central bank will indeed begin to ease its pressure to keep interest rates low.
Hence, I feel that this sell off is completely speculative and the market participants would slowly understand this simple fact. In India though the selling by the FIIs is a cause of concern, the DIIs have been continuously buying securities. FIIs usually follow a pattern in their sales and purchases. Heavy purchases are normally noticed in the beginning of the calender year while sales are concentrated at the end of the year, coinciding with the redemption and other monetary obligations which they face in their home countries. This time around, selling seems to have started early--the reasons could be (i) Unstable Rupee (ii) The RBI maintaining high interest rates.
The fact that the RBI has kept interest rate so high, for such a long time has damaged the economy severely. This blog had pointed out long back to accept a WPI of 7% as the new datum of inflation barometer, in changed circumstances; but then our economists and the RBI continued to stick to their target of 5%. Now that when inflation is coming down, the RBI is finding ghost in the high Fiscal Deficit (owing to Rupee Depreciation), and as a result the same Status-quo continued in the June, 2013 policy meet. So, if the RBI cannot take this much challenge to cut down the rates to some reasonable levels, what is the need to pay  its office bearers such high salaries. These things can be done by anyone by looking at the inflation and FD figures. Isn't it?
Therefore, it is time that the RBI goes for an immediate 50 bps cut in the Repo rate and 25 bps cut in the CRR to boost the fundamentals of the Indian economy. But before that the markets are expected to show a turnaround, as the fall by any stretch of imagination is unjustified.