After Fed, RBI may hike rates; how will it impact your equity, debt mutual funds?

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The Federal Reserve has raised interest rates by 75 basis points (100 basis points = 1%) and signaled even more aggressive hikes ahead than investors had expected. According to fund managers in India, the RBI might feel the pressure of this big hike. Fund managers believe that RBI can raise rates by 40-50 bps in the upcoming policy. The Fed rate hike has impacted the global equity markets as well as the bond markets. What impact it will have on your mutual funds?

Fund managers say that the global equity markets, including the Indian markets will stay volatile for the time being, till the rate hike cycle is going on globally.

“Central banks are taking an approach to tackle inflation and not worrying about growth at this point. It is good in a way. Global stocks are down because in the near term, there is worry about the peak of rate hikes and impact on interest costs, consumer demand etc. Almost all the commodity prices are under control now, except energy. Maybe in 6-9 months, we will be through with this rate cycle. We may also look at a cutting cycle down the line. However, till then investors should expect bouts of volatility in the equity market,” says Rajeev Thakkar, Associate Director & CIO, PPFAS Mutual Fund.

Thakkar says that even though India is better positioned vis-a-vis many other countries in terms of inflation, the impact of capital outflows from India might be worrying the RBI. He also said that investors should see this volatility as an opportunity.

“Our inflation rate is somewhat under control, our economy is better placed. Any big drop in equity prices should be seen as an opportunity at this time to allocate more. But if your goal is in 2-3 years, avoid equity funds at this time. This is a phase and investors should stick to their asset allocation,” says Rajeev Thakkar.

On the fixed income side, bond yields have dipped with the global growth slowdown and falling commodity prices. Indian bond yields have been falling since mid-June 2022. The 10-year government bond yield peaked at 7.6% in June 2022. It fell to 7.45% by June end, 7.32% by July end, and 7.24% by August end and dipped to the lows of 7.07% during the second week of September 2022. It gave up some of the gains over the last few days and is currently trading around 7.22% as on today.

Debt mutual fund managers like Pankaj Pathak of Quantum Mutual Fund believes that the rate cycle in India is near its fag end. “The market is already pricing for the Repo Rate to peak around 6% by this year-end and remain there for some time. However, the RBI might maintain its hawkish tone beyond 2022 if the external monetary environment from the Fed and other central banks remains hostile. We maintain our view that the worst of the bond market sell-off is now behind us though there we may not see a reversal happening anytime soon. Medium to long-term bond yields should trade in a narrow range for the next 3-6 months,” says Pankaj Pathak.

According to Pathak, the 3-5 years segment remains the best play as core portfolio allocation for debt mutual fund investors. “The long end of the yield curve is vulnerable to an adverse demand supply shock. The interest rate on short-term treasury bills has jumped about 190 basis points in the last 6 months. With more rate hikes coming, short-term treasury bill rates are expected to move higher. This suggests higher potential returns from investments in liquid and short-term money market funds going forward,” says Pathak.

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