Growth indicators

Most high frequency indicators suggest healthy growth momentum. IIP growth continue to show decent traction with headline April IIP rising marginally to 4.9% y-y (4.6 % y-y in Mar), with 3 month growth average at 5.4%. In segments wise breakdown, we witnessed healthy growth in capital goods and consumer goods. Manufacturing growth remained healthy at 5.2% y-y. June PMI data was positive with composite PMI rising to the highest levels since demonetization at 53.30. Manufacturing PMI came at highest since December 2017, extending expansion period to 11 months. PMI services were at 12 month high. PMI survey indicates that demand condition was positive and output growth was reported across market groups with international markets orders rising at strongest pace since February.

Railway traffic continues to post decent growth while cargo growth declined from high numbers. Growth in steel consumption continues to remain strong. Fuel consumption has witnessed some moderation while passenger vehicle sales have stabilized around long term median levels even as two wheeler and commercial vehicle sales continued to grow at a rapid pace. Credit growth also continues to inch upwards but is being largely driven by services and personal loans. Bank credit to NBFC sector is growing strongly. Agri loans remain flat while industrial growth continues to remain dismal.
(Source: CEIC)

Inflation

Inflation at 4.88% was a negative surprise in many ways. The number was in line with expectations. The core inflation numbers however stayed high and this level of core inflation is discomforting to say the least. The 4-5 months of data on core inflation has been worsening and while we saw no further deterioration in this number, a core inflation of around 4.75-80 would be outside RBI’s comfort zone. The data on long awaited MSP hike was also delivered in the first week on new month. While this was broadly in line with expectation, it still means that it will push inflation higher by 40 bps or more. The second order effect will depend on the follow up action by the Govt and also the quality of execution. Food inflation continues to be benign with some spikes in veggie inflation which again is not out of line with normal seasonality. This means that headline inflation even including the HRA effect has broadly remained contained till now. However given the recent surprise on core inflation and hike in MSP we need to be extra vigilant on this front.
(Source: RBI, MOSPI)

External account

4QFY18 CAD declined marginally to 1.9% of GDP compared to 2.1% in 3Q. There was a marginal decline in trade deficit while primary income outflows increased. While FDI inflows rose compared to previous quarter the trend in FDI is of a decline with FY18 inflows at US$30.3 bn compared to US$35.6 bn in FY17. Overall BoP remained in surplus with net reserve accretion of US$13.2 bn. Recent trade deficit data in 1QFY19 is broadly at similar levels as previous quarter, centered at ~14bn US$ per month. However, the strong capital outflows since April has been creating depreciating pressure in INR. RBI has been regularly intervening in fx market to smoothen the decline in currency and the forex reserve has declined by US$20 bn from the April peak despite maturities in the forward book. Global backdrop of capital inflows to EM markets looks less promising with rising USD funding cost amidst high EM debt levels.
(Source: CEIC)

Other developments

MPC minutes were broadly in line with market expectations, and in sync with the 6-0 vote for 25bp hike. All the members were concerned on inflation, and comfortable on growth. There was broad consensus on key risk to inflation coming from oil and rising inflationary expectations. However benign food inflation had been a source of comfort. One key point to note is that most members are focusing on 4% inflation target and not on the 2% +/- band. Given their view of closing output gap, RBI will continue to likely react proactively on signs of emerging inflationary pressure.

Fed delivered 25bps rate hike for the second time this year. While the UST long end remained unchanged given the hike was baked in, the short end witnessed a rise resulting in further flattening of the curve with 5s30s now at 24bps and 5s10s at 12bps. The equity markets were hit, especially Chinese and Hong Kong, as Trump continued to impress upon his Trade protectionism agenda. The US-China trade tit-for-tat dragged throughout the month. EM debt and equity funds witnessed strong outflows in the light of political uncertainty, rising leverage costs and weakening EM currencies despite counter measures taken by respective administrations.

US data continue to post healthy growth numbers outpacing other major developed economies. Equity markets in EM remained under pressure and underperformed DM equity markets, particularly US. EM currencies also came under selling pressure. Sharp depreciation in CNY created some panic in the market, which subsided following comments from PBoC governor. OPEC finally managed to reach an agreement on raising oil output despite strong divergence in views between Iran and Saudi Arabia on raising output in a tightening market amidst looming Iran sanctions. Crude inched up following the OPEC deal but has stayed below the psychologically important 80 mark.

Portfolio positioning

This month was an oasis of stability compared to what we have seen in recent times with both Govt bond and corporate bond trading in a range. 5yr AAA PSU remained almost flat by moving 0-5 bps during the month with even 2yr PSU remaining flat. RBI had hiked during the month, however its impact was limited as this move was highly anticipated by the markets. There is lack of clear trend both globally and locally during the month and this has broadly reflected in the markets. Recent months we have seen worsening of both inflation and external sector data, however both of these are adequately reflected in markets. Couple of more data points in local macros hence assumes significance as they would help us to form narrative on future trend in markets. The portfolios are therefore constructed so as to capture any opportunity on the liquid portion of the curve while broadly remaining very cautious on overall portfolio positioning.

USD: United States Dollar; YTD: Year To Date; FPI: Foreign Portfolio Investors; DII: Domestic Institutional Investors; WPI: Wholesale Price Index; CPI: Consumer Price Index; GDP: Gross Domestic Product; GVA: Gross Value Added; GST: Goods and Sales Tax; EPS: Earnings per share; EU: European Union; CAD: Current Account Deficit; OPEC: The Organization of the Petroleum Exporting Countries

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