US Fed leaves rates unchanged: What this means for Indian investors

India, as a result of the Fed's policy, witnessed its indices Sensex and Nifty falling 570.6 points and 159 points respectively on Thursday. Why did the Fed do this and what can Indian investors do? We explain.

A currency trader reads documents at the foreign exchange dealing room of the KEB Hana Bank headquarters in Seoul, South Korea, Tuesday, Sept. 19, 2023. Asian shares mostly declined in cautious trading Tuesday ahead of the Federal Reserve’s looming decision on interest rates. (AP Photo/Ahn Young-joon)

Written by: Hitesh Vyas

5 min readMumbaiSep 22, 2023 10:36 PM IST First published on: Sep 22, 2023 at 11:00 AM IST

In line with broad market expectations, the US Federal Reserve on Wednesday (September 20) left the policy rate unchanged at 5.25-5.5%. It, however, indicated a possible 25 basis points (bps) hike in interest rates by the end of this year, and said it may cut rates by 50 bps by the end of 2024.

This resulted in downward pressure on global markets, including in India, which witnessed its indices Sensex and Nifty falling 570.6 points and 159 points respectively on Thursday. Over the last two trading sessions, Sensex has lost 1,366 points or 2%.

What did the US Fed say?

The US Fed revised up its assessment for real GDP growth to 2.1% for 2023 from 1% in its June projection. It also expects inflation to be at 3.3% in 2023 and fall to 2.5% in 2024.

“We are prepared to raise rates further if appropriate, and intend to hold policy at a restrictive level until we are confident that inflation is moving down sustainably towards our objective,” Federal Open Market Committee Chairman Jerome Powell said.

The US Fed is seeing a 50 bps reduction in interest rates in 2024 compared with the 100 bps projected in its June policy.

Why did the Fed leave policy rates unchanged?

“The Committee seeks to achieve maximum employment and inflation at the rate of 2% over the longer run. In support of these goals, the Committee decided to maintain the target range for the federal funds rate at 5.25 to 5.5%,” the Federal Reserve said in a release.

In determining the extent of additional policy firming that may be appropriate to return inflation to 2% over time, the Committee will take into account the cumulative tightening of monetary policy, the lags with which monetary policy affects economic activity and inflation, and economic and financial developments, the Fed said.

“Higher interest rates are the new normal — this is the signal which the Fed has sent to markets this time. They have made it absolutely clear that higher interest rates for longer are here to stay,” said Dhawal Ghanshyam Dhanani, Fund Manager, SAMCO Mutual Fund.

How have markets reacted?

The US Fed’s hawkish pause impacted market sentiments. Out of 19 Fed officials, 12 expected fund rates to rise again in calendar year 2023. Thus, the anticipation of some liquidity tightening impacted the equity market outlook, Bank of Baroda said in a note.

Explained, Your Money | Nifty at 20,000, but valuations should not bother long term investors, say experts

The domestic equity market witnessed selling pressure on Thursday in line with its global peers. While the 30-share BSE Sensex tanked 0.85% to finish at 66,230.24, the NSE’s Nifty ended at 19,742.35, down 0.8%.

“Bearish sentiment across global equities led to selling in the domestic market for the third straight session as investors fretted over the US Fed statement indicating one more rate hike later this year,” said Shrikant Chouhan, head of research (retail), Kotak Securities Ltd.

The other reasons for the fall were lingering overseas fund outflows, rising US dollar index and treasury yields, and higher crude oil prices making investors jittery.

What does the Fed’s move mean for India?

The RBI has always stated that its decisions on interest rates are driven by the domestic inflation scenario and are not dependent on the US Fed’s actions.

However, the concern for the RBI will be more on the external side, which is the flow of funds to India, and currency, said Madan Sabnavis, Chief Economist, Bank of Baroda. “As long as the US Fed is not lowering the rates, the dollar will continue to be strong. If the dollar remains strong, there could be pressure on all currencies, including on the rupee,” he said.

Besides, there could also be pressure on investment flows as they are guided by the US Fed action.

Many experts believe that the RBI is likely to leave the repo rate unchanged at 6.5% in its next monetary policy to be announced on October 6, as inflation continues to remain above its comfort zone. In August, consumer price index (CPI) inflation eased to 6.83% from a 15-month high of 7.44% in July 2023.

However, if the rates in the US continue to stay high, it will impact fund flows into emerging markets, including India, which may have some impact on equity markets. Even as domestic fund flows have risen and are keeping the markets steady, FPI fund flows play a big role in the movement of Indian equities. In the five-month period between April and August, the FPIs pumped in a net of Rs 1.61 lakh crore into Indian equities, lifting the Sensex by 10%.

September has seen some softening in flows. This month, till Thursday, the FPIs have been net sellers in Indian equities, selling their holdings worth net of Rs 8,200 crore.

What should investors do?

Ideally, long-term investors should focus on investing through systematic investment plans rather than investment lump sum amounts in the current market. Also, as mid-cap and small-cap companies have witnessed a stronger rally over the last five months, experts say that investors should go with mutual fund schemes that invest in large-cap or blue-chip companies, or multi-asset allocation funds.