In a surprise move last Wednesday, the Reserve Bank of India’s monetary policy committee hiked key borrowing rates to curb rising consumer price inflation (CPI). The upward limit of the Reserve Bank of India’s CPI tolerance band is 6%. CPI in India has been persistently above that for some time now. There is a lot of debate about whether RBI is ‘behind the curve’ or has taken timely action. While experts would continue to debate that issue, you need to look at your savings and investments. Your finances are affected directly by the rising inflation and interest rates.
Equity markets turn volatile when interest rates are on the rise. There is a reason for that. Equity returns diminish when the cost of money is higher. US stock markets are in a tailspin after the US Federal Reserve’s committee on interest rates raised borrowing rates by 0.5%, the highest increase in 22 years.
When the US’s stock market data from 1947 to 2021 was analysed for the inflation impact, monthly stock market returns were lower whenever inflation exceeded 5%. When inflation was well under control between 2003-2007, India witnessed an unprecedented stock market boom in India. When inflation soared after the global financial crisis in 2008, India’s stock market tumbled. They bounced back when RBI began reducing borrowing rates.
As interest rates rise once again after an unprecedented phase of low-interest rates, stock markets worldwide are falling. The challenge is to identify companies and sectors unaffected by the macro-economic and geo-political situation.
High inflation need not necessarily mean a reduction in profits across sectors. Specific sectors and companies have businesses resilient to the external environment. The key here is to identify businesses in these sectors and get invested while drowning out all the short term negative noise that typically follows during such market turmoil.
In India, shares of public sector companies are outperforming the private sector companies. Companies involved in energy, oil marketing, and financial services are doing better than their peers in the private sector. The government is also taking the Life Insurance Corporation of India (LIC) public through an offer for sale. In the price band provided, that is likely to add almost $80bn in new market capitalisation to the stock market. The market value of India’s insurance sector would be comparable to that in China and other big nations after LIC shares open for trade on the listing. A lot could change after listing LIC in portfolios of both institutions and high net worth individuals. If you are looking to own a slice of the life insurance sector in India, you have to own the company that dominates the market with more than two-thirds share.
At the same time, companies that generate strong cash flows will be less affected by high-interest rates. The idea is that the balance sheets of profitable and cash-generating companies are strong so they do not have to rely on bank credit to push growth. They can utilize profits and cash reserves to expand operations when interest rates rise. That includes companies in the IT services sector.
The other segment of interest could be companies that enjoy pricing power. Usually, companies in the consumer goods segment can pass on high input costs to consumers during phases of high inflation. These are companies that sell goods that are everyday essentials like bakery products, oral and personal hygiene, staples and other items.
To sum it up, a rising rate cycle due to inflationary pressures in the economy need not be necessarily a bad thing. Smart investors are able to figure out which way the money shifts are happening and accordingly position their portfolios during a bad market phase, which is just that: a passing phase.
All you need is an advisor who can help you identify sectors resilient to inflation. Don’t worry, we got you covered at www.alphaniti.com. Come check us out and see for yourself the high quality and strong performance backed portfolios that we have built for investors.
Why high inflation makes investing in the stock market a smart move | CNBC
Myth-Busting: Equities Are an Inflation Hedge | CFA Institute Enterprising Investor
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