Interest Rate Reversal & Market Reaction

Over the course of the year, the RBI has successfully mitigated inflationary pressures, all the while maintaining robust economic growth. Diverging from the trend of rate increases observed in 2022, the year 2023 has been marked by a predominantly stable interest rate environment. Following the Federal Reserve’s surprising decision to maintain interest rates while hinting at possible rate reductions in 2024, taking a more dovish stance, we believe the RBI might consider cutting its rates. How will this transition impact the investors? The report, with historical facts, draws some conclusions

In the closing month of 2023, the global equity markets surged in unison, marking one of the most impressive performances since 2019. This momentum followed a robust two-month rally, fuelled by investor optimism, predicting a conclusion to the series of interest rate hikes and anticipating swift cuts by major central banks in the upcoming year. The U.S. Federal Reserve’s mid-December policy projections reinforced this trajectory, signalling substantial rate reductions on the horizon. Reflecting this wave of optimism, the MSCI All-Country World Equity Index, encompassing both developed and emerging market equities, soared by 4.7 per cent in December 2023, following a staggering 9.07 per cent surge in November 2023, marking the most remarkable monthly return since 2010. faster-than-expected decline in inflation across Western economies. The prevailing consensus about a steep decrease in borrowing expenses in 2024 has ignited a bond market rally, thereby enticing investors towards equities in pursuit of enhanced returns. Notably, the U.S. 10-year Treasury yield, a key benchmark for global financial assets inversely linked to bond prices, has plummeted to 3.87 per cent from its previous position of over 5 per cent in October, mirroring the continued descent of inflation.

The market sentiment now anticipates six projected rate cuts by both the Federal Reserve and the European Central Bank by the close of 2024, which is a stark reversal from prior apprehensions of enduring elevated rates. The Indian equity market performed even better. The Nifty 500, encompassing large-cap, mid-cap and small-cap stocks, gained by 15.07 per cent in the last two months of 2023. In addition to the trigger by the U.S. Federal Reserve, the Indian equity market had its own idiosyncratic triggers.