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Indian equities erased early gains on Thursday, with the Sensex closing down 135.03 points at 75,183.36 and the Nifty50 slipping 4.30 points to 23,789.00.
The primary driver for this reversal was investor apprehension regarding potential interest rate hikes by the Reserve Bank of India (RBI). This concern stems from persistent inflation risks, exacerbated by elevated crude oil prices. Despite a recent drop in Brent crude to $104 per barrel, underlying geopolitical tensions in the Middle East continue to fuel fears of supply disruptions.
Economists at Standard Chartered have indicated that the RBI might commence interest rate increases as early as June, citing these rising inflation risks. The market's reaction highlights a delicate balance between positive commodity price movements and expectations of monetary policy tightening.
Thursday's trading session was further influenced by the weekly derivatives expiry for the Sensex, a factor known to increase intraday volatility. Vinod Nair, Head of Research at Geojit Investments, noted that weak manufacturing sector data also contributed to the cautious sentiment. India's HSBC Manufacturing PMI declined to 54.3 in May from 54.7 in April, indicating a slowdown in factory conditions.
This weaker growth outlook, coupled with potential monetary policy tightening, overshadowed the positive performance of the Indian rupee, which saw its best single-day gain in nearly two weeks. However, analysts at DBS Bank project the rupee to weaken to a range of 95-100 against the US dollar in the coming months, citing persistent capital outflows and India's current account deficit as key headwinds.
While the broader market, including small and mid-cap indices, showed some resilience, IT stocks faced pressure, with Infosys, Tech Mahindra, and TCS ending lower. This sector-specific weakness contrasts with gains seen in banking and select industrial stocks.
The primary risk for the Indian market remains the interplay between elevated crude oil prices and the RBI's monetary policy response. Sustained high oil prices pose a significant threat to India's inflation, the rupee's stability, and corporate profit margins, given the country's heavy reliance on oil imports (approximately 90%).
Standard Chartered forecasts a potential 50 basis points of rate hikes within the current fiscal year, starting as early as June, to manage inflation and rupee depreciation risks. A significant depreciation of the rupee, as projected by DBS Bank to 95-100 against the dollar, would further exacerbate imported inflation and widen the trade deficit. The recent decline in manufacturing PMI data also signals potential headwinds for economic growth, potentially leading to a "stagflation-lite" scenario.
Foreign portfolio investors have continued to divest from Indian assets, with outflows exceeding $22 billion since late February, underscoring investor caution.
Analysts anticipate that the RBI will closely monitor inflation data, particularly concerning crude oil prices and the rupee's trajectory, as it considers its next monetary policy move. The possibility of an interest rate hike in June remains a significant factor influencing market sentiment.
The HSBC Flash India Composite PMI indicates that while the private sector remains in expansion territory, growth has softened marginally, with manufacturing activity showing particular strain. The rupee's outlook remains subdued, with forecasts pointing to further depreciation against the US dollar.
Geojit Investments' market outlook suggests that while Q4 earnings might offer some stock-specific opportunities, overall market direction will be influenced by global news flows, commodity prices, and currency movements.