RBI may start cutting rates from Dec’24 if the Fed acts in Sep’24

·         But the Fed may not cut from Sep’24 if the August unemployment rate does not further surge above 4.3-4.5%

·         If Fed cuts from Dec’24, then RBI may also cut from Feb or Apr’25; RBI may also start targeting core CPI rather than total CPI in support of rate cuts

·         India’s real GDP growth for Q1FY25 was subdued amid a lack of boost of government spending due to the general election, but private CAPEX also needs much-awaited animal spirit

·         India’s unemployment rate remains around double digit; RBI/Government needs to ensure lower borrowing costs for becoming a developed 3rd largest economy by 2047

·         India’s real GDP is now only around $2.10T, while nominal GDP is $3.6T; the abnormal difference is due to a very high GDP deflator (inflation); US: ~$23T/29T; China: both ~$18T

·         India’s NSE has also privately acknowledged that the Nifty/Index PE being officially published is based on the market capitalization of the index on a given day, not related to the Equity capital of the Index constituents

·         Growing controversy over SEBI Chief about Conflict of Interest, Office of Profit & Corporate Governance issues may also drag the market

India’s benchmark stock index, Nifty is now trading around 25300 levels, at a fresh life time high on hopes & hypes of an early Fed/RBI pivot and Gaza war ceasefire in line with global cues; almost all major global stock indices are now also hovering around life time high as Fed may soon launch next cycle of rate cuts cycle (around eleven QTR rate cuts) over next two years either from Sep’24 or Dec’24 QTR.

However, RBI/Governor Das is still maintaining a hawkish hold stance as India’s headline CPI is still hovering around +5.00% on average, while GDP growth is still robust above +7.0% against RBI/trend rate +6.0%. But at the same time, India’s unemployment rate continues to hover around 8.0% on average, while core inflation is well below +4.0% targets. Thus practically RBI should now opt for a policy change stance and start rate cuts.

Like Wall Street, India’s Dalal Street now may also be expecting similar RBI rate cuts from Dec’24 (if Fed cuts from Sep’24 or Feb’25 if Fed cuts from Dec’24). RBI may also officially shift its stance from present restrictive to neutral in Oct’24 or Dec’24 if the Fed indeed starts cutting rates from Sep’24 or Dec’24. Recent RBI/Governor Das comments indicate RBI may not cut until the Fed starts cutting and for that RBI will observe the Fed’s real action, not any forward guidance/jawboning. If by Dec’24, India’s headline CPI remains sticky around +5%, then RBI may also change its inflation targeting stance to core inflation (at least unofficially with a word of caution).

As per RBI Governor Das, the Fed is confusing the market more by going for such frequent jawboning, often contradictory to each other. Perhaps, RBI Governor Das is not entirely wrong and thus RBI has now fully stopped providing any forward guidance, which may confuse the market more. RBI has also not any intention for any artificial YCC despite the government being the largest borrower; the Indian government is also the largest lender being the main promoter/largest shareholder of all PSU Banks. Thus India’s Federal government is also one of the big beneficiaries of higher interest rates in India. RBI is the big beneficiary of higher government bond yields as RBI is the largest holder of government bonds (debts). In turn, the Government is getting a hefty return/dividend from RBI and also almost all PSU Banks.

On Friday (30th August), India’s MOSPI 1st estimate data shows India’s real GDP for Q1FY25 was around Rs.43.64T against Rs.47.24T sequentially (-7.6%) and Rs.40.91T yearly (+6.7%). India’s Q1FY25 real GDP grew around +6.7% (y/y), slowing from +7.8% in the previous QTR, below market expectations of +6.9%, and the slowest expansion in five QTRs. Generally, in every FY the government stresses completing the budgetary allocation (like infra & other spending) by the last financial QTR. Thus generally, Q4FY QTR GDP expands at a hefty pace followed by somewhat subdued or often sequentially negative next Q1 QTR of the next FY. In addition, this time there was some slowdown in government spending in Q1FY25 due to the imposition of India’s general Election Model Code of Conduct (MCC).

In Q1FY25, India’s real GDP was dragged by mainly subdued government final consumption expenditure (GFCF), but sequentially was dragged by all the expenditure components, while Private Final Consumption Expenditure (PFCF) remains robust, although contracted -1.60% sequentially, grew +7.72% yearly, more than growth of overall real GDP of +6.67%. Indian MOSPI does not provide separate private CAPEX data; thus the calculation of PDFP (Private Domestic Final Purchase; i.e. Personal Consumption Expenditure-PCE+ Gross Private Domestic Investment); i.e. core real GDP may not be possible at this stage.

As per current R/R and overall trend, India’s Q2FY25 real GDP should grow around +2.50% sequentially to Rs.44.73 vs Rs.41.86 yearly (+6.9%); In Q2FY25, there is some thrust on Government expenditure and CAPEX ahead of a series of state elections from late Sep’24, especially in big states like MH, and BR (Bihar); also key Modi 3.0 ally state AP is getting good Federal support for infra for its new capital and other projects. Modi 3.0 is now also revisiting the smart city plan.

In Q1FY25, India’s real GVA was around Rs.40.73T vs Rs.42.23T sequentially (-3.6%) and Rs.40.91T yearly (+6.9%); i.e. India's real GVA grew by around +6.9%; GVA (Gross Value Added) is production approach of measuring economic output against traditional expenditure approach; GVA+ Net taxes =GDP. India’s real net taxes are now almost 9.4% of real GVA, while current taxes are over 10% of current GVA.

India is a service economy as almost 55% of GVA/economic output comes from the service/Tertiary sector, followed by manufacturing around 17%, utility & construction (total secondary sector around 29%) and farming & agri sector around 14% coupled with mining (primary sector ~16%).

In terms of the average USDINR FX rate, India’s real GDP was around $2.1T in FY24 against $1.7T in FY12; i.e. an average growth of around 1.2% as USDINR also appreciated by around 5.3%. India’s nominal GDP was around $3.6T in FY24 against $1.8T in FY12; i.e. grew at an average growth of around 6.9%.

India’s nominal GDP (~Rs.295T) was almost 70% higher than real GDP (~174T), abnormally higher than the normal 20-25% in AEs as India’s headline inflation remains elevated above 5% for decades. India’s GDP deflator (weightage average of CPI + WPI) grew from 100.0 in 2012 to 172.6 in 2024.

Talking about India’s inflation, the MOSPI data shows India’s annual (y/y) total CPI (inflation) eased to +3.5% in July from +5.0% sequentially, below market consensus of +3.6%, the slowest increase since Aug’19 and officially fell well below RBI’ target of +4.0% for the 1st time in the last five years (since Jan’19) primarily due to favorable base effect and led by a drastic fall in food prices.

In July, Indian food inflation (CFPI) fell drastically to +5.4% from +9.4% sequentially. India’s food inflation has remained elevated near double digits on average for the last 10 years; i.e. almost 100% increase in the last decade despite India being one of the largest producers of food items in the world. The elevated/sticky CFPI (food inflation) is often a political issue in India, with the potential for a change in the Federal government. The legacy issue of high food inflation may be because of inadequate supply for the huge and still growing population, adverse weather, poor infra/storage/cold storage facilities, and lack of adequate marketing strategy by corporates (formal all-weather proof marketing) of agri products, reducing seasonal wastages.

 

On a sequential (m/m) basis, India’s total CPI increased by +1.4% in July from +1.3% in the prior month led by food products amid adverse weather (heavy rain/flood/drought) and increasing cost of transportation after the election.

Derived data shows, India’s annual core CPI ticked up to around +3.3% in July from +3.1% sequentially.

India’s core inflation data is not official, but derived; in any way, the current divergent trend between total CPI and core CPI may also indicate subdued core demand/discretionary consumer spending.

Overall, India’s 6M rolling average of COI inflation was around +4.7% in July against +5.7% in 2023, while the 6M rolling average of sequential (m/m) CPI was +0.7%. India’s 6M rolling average of core CPI was around +3.2%, while the same for the unemployment rate was around 8.0% (June 24).

Overall, India’s real GDP is now growing around trend levels of +7.0%, while total/headline inflation (CPI) has been running around +5.50% and core inflation (core CPI) has been around +4.0% for the last two years on average. Overall, India’s inflation may surge further in the coming months as producers of various goods & services have increased prices soon after the June’24 general election. Thus average CPI (inflation) may hover above 5.5% in H2CY24, making RBI’s job difficult for any rate cuts before at least Dec’24 (in line with Fed). Also, elevated inflation/cost of living over 50% every 10 years on average is a legacy issue in India due to the ever-increasing population, higher demand, and inadequate/ constrained supply capacity of the economy coupled with infra/rapid transport/storage/cold chain issues.

Also, structurally higher fiscal deficit, higher debt, higher money printing, and devaluation of currency are causing rampant inflation. Higher fiscal spending is also causing widespread corruption at almost all levels, especially in the political system as a recent Electoral Bond scam shows (cut money/donations to political parties/governments for getting contracts). India’s black money economy is huge and also causing widespread inflation through various demand channels despite elevated borrowing costs/higher RBI rates. At least 30% of India’s high-value consumer spending is backed by this black money, which does not require any borrowing at all. Thus RBI’s higher rate is largely unsuccessful in bringing down inflation unlike in AEs (US/EU). It’s also a common issue in most of the DE/EMs.

India’s unemployment rate has remained around 8.0% on average for the last 20 years and if we take into account under-employment, it should be in the high double digits, while the educated youth unemployment rate may be around 45-50%. India is primarily a service sector and also an import-oriented economy, especially for oil, various industrial commodities, raw materials, and finished products/consumer durable goods. India has immense potential in improving its manufacturing sector with the right policies in place to not only become less import-dependent but also become one of the largest exporters, competing with even mighty China and becoming a real alternative to China in terms of a global manufacturing hub. But for that, India also has to improve its mining & querying activities along with huge stress on innovation & productivity and lower cost of production.

India’s real GVA growth trend may be indicating an underlying R/R of around +7.0% (y/y), lower than the real GDP R/R potential mainly due to comparatively higher taxes on products & services. India’s GST and other indirect taxes are now the highest contributor of Federal revenue around Rs.14.80T followed by corporate/business tax Rs.10.22T and personal tax Rs.9.23T in FY24. India needs now GST tax reform without frequent changes in rates and multiple slabs. As revenue revenue-neutral strategy, India should apply a 15% or even 10% uniform GST rate across all products and services including petroleum products. India’s CII has prescribed three slabs/rates for GST with the inclusion of petroleum products.

Although there is a rumor that from FY25, the Indian Federal Government may abolish the personal tax code and instead continue with direct/GST tax codes. However, the Government may abolish the old tax regime and keep the new tax regime with fewer tax slabs and without any tax deduction provisions related to investments.

But India also needs out-of-the-box ideas or monumental reforms in various aspects like labor & land reform (rather than a mere political narrative) for a developed economy by 2047-50 or even by 2100. India also has to strengthen institutional autonomy in the judiciary, press, election commission, competition commission, etc along with political funding and electoral process reform. India (Federal Government) now pays almost 45% of core tax revenue as interest on public debt and 35% on account of government salaries and pensions. Indian Federal & state combined public debt & liabilities (PDL) is now around INR 365T, approaching 100% of the country’s nominal GDP.

Although most of the Indian PDL is in LCU (local currency units-INR), the cycle of higher deficits, debt devaluation and subsequent higher borrowing costs/higher inflation is making India a high-cost economy. This along with the lack of adequate employment opportunities for India’s huge pool of educated youths over the last few decades may create social unrest in the country, if not properly handled by the policymakers. Thus India needs to give RBI a dual mandate of maximum employment and price stability (like the US Fed).

Also, the Indian government may need a more personal tax collection system (like in the minimum payroll/social welfare taxes) along with non-strategic PSU disinvestments to fund modern social and traditional/transport infra in the country for ease of living. For this two main political parties (BJP and INC) should come into some bipartisan politics/economics supported by the corporate/business/ordinary public of the country.

Overall, despite incremental improvements in the last few decades, India is still far behind China in terms of infra (traditional, transport, and also social). Thus there is a huge scope for improvement for India’s ailing infra, especially railways and also education & healthcare to match with growing/huge demand for a huge/still growing population of almost 1.50B of the country. India’s long waiting lists (3-4 months) for train tickets in the busy traveling/holiday season has still been a big issue for the last few decades indicating that transport infra is still significantly inadequate to the growing demand of the population/economy; the same is now also almost true for airways.

India has now a natural economic growth of around 7-8% (real GDP) due to its large population and growing affluent middle class along with huge/growing government spending and service/IT/petroleum products exports. But India needs to grow in double digits (at least 10-12%) in real terms keeping USDINR and core inflation at manageable levels for the next 15 years to be able to become a true $5T economy with inclusive growths; not exclusive and jobless growths like at present. India needs to put proper tax and policy structures in place to encourage domestic manufacturing of quality goods for export so that it can compete with China and other Southeast Asian exports, which will eventually create mass employment (like in China).

Conclusions:

India’s PM Modi may not be comfortable with coalition politics, falling popularity, and internal conflict within BJP/RSS over his arrogance and autocratic behavior. Thus if Modi can’t consolidate his power in the forthcoming state elections (after the recent general election setback), he may have no other option but to opt for a face-saving early exit from active electoral politics by Dec’25 or even before on BJP’s 75-year mandatory retirement policy; in that scenario, RSS backed moderate Gadkari may be the next PM candidate for BJP and the original theme of so-called Modinomics (reform & perform) will continue, even may be in different form & style for the time being.

All is not good for Modi 3.0, which is now a minority government, now increasingly under various controversies from Adani/SEBI Chief (Butch)/ICICI Bank/ZEE involving in various regulatory and quid-pro issues. Modi 3.0 is now also potentially being controlled by the whims & fancies of two key regional political parties (TDP and JDU & Co) despite ongoing ‘Operation Lotus’. This along with internal tussle within RSS/BJP along with state election issues in the coming months may keep Modi too much occupied with politics rather than economics. Thus, even if Nifty scales around 25300 levels on hopes & hypes of a blockbuster budget and political/policy stability by Modi 3.0, Nifty may soon stumble amid the reality of political & policy paralysis\ and present levels of valuation bubble zone for Nifty and various NSE.BSE indices.

As per our calculation, NSE has clarified to us through official mail that what NSE is publishing as Nifty PE is based on market capitalization on the index on a given day divided by the total TTM earnings of all constituents. However, the EPS of a company is always based on actual TTM earnings divided by TTM equity capital or number of equity shares O/S. The Nifty/index EPS is the summation of all constituents' EPS as per their market weightage/free floating factor.

As we all know, the EPS of a company is always related to Equity Capital, and thus it's fixed for a QTR or FY, while PE is variable in line with market price.  EPS of a company has no relation with the market capitalization of that company. Similarly, Nifty or any other stock index EPS should also be based on the actual EPS of each company/constituent in line with their index weightage. This method shows FY24 NIFTY EPS around 856 against the official NSE figure (through back-calculation) of 975, which is almost 14% higher, and thus PE is also 14% higher than being officially published by the NSE based on pure market capitalization/gross earnings.

For example, as of date, NSE is publishing the official Nifty PE ratio as 23.51 (LTP: 25278.80) based on your market capitalization methodology. But the Nifty PE should be based on available QTR TTM EPS, which is now around 873 (as per index constituent weightage ratio). Thus, at around 25278.80 Nifty Index levels, the Nifty PE should be around 28.95, not 23.51 (as published by the NSE, which may be misleading)

As per AI:

If we consider NSE calculation, at present Nifty levels of around 25000, the TTM (Q1FY25) Nifty EPS is around 1076 (at TTM PE around 23), while calculated Nifty TTM EPS should be around 873 (as per index weightage ratio) and in that scenario, the TTM PE of Nifty is currently around 29, extreme bubble zone. Also if we consider individual stocks (constituents) under Nifty, most of them are in the extreme bubble zone (sky-high PE ratio, much more than their present or potential earnings/EPS growths). At Q1FY25 TTM EPS is around 873 and a fair PE range of 20-25, Nifty should hover around 17500-22000 zones.

As per our calculation, FY24 Nifty EPS was around 856 against NSE figure 1051; assuming an average EPS growth of around +20% (in line with a current average of +18% for the last five years), the estimated FY25 EPS may be around 1027 and a fair PE of 20 (against average EPS growth of 18%), the fair value of Nifty should be around 20544 for FY25 (projected EPS 1027); 24653 for FY26 (projected EPS 1233), and 29583 for FY27 (projected EPS 1479).

Bottom line

As the financial market usually discounts one year of EPS in advance, the current fair (neutral) value of Nifty should be around 20550 at a median PE of 20, while the bullish zone may be around 25700 and the panic (bear) zone may be around 15400. At present, Nifty should hover around the 20500/22000-25500/25700 zone (assuming the estimated Nifty EPS for FY25 is around 1027 and fair/bullish PE 20/22-25).

Looking ahead, Nifty may be under pressure for not only adverse global cues, but also bubble valuation, and growing political & policy uncertainty/paralysis as Modi 3.0 is visibly weak (rollback government) and too busy with politics (against strong united opposition) rather than core economics. Modi 3.0 is now pre-occupied with Operation Lotus strategy to stay in power and win in the forthcoming crucial five state elections with the leadership of PM Modi to consolidate his power within the party (BJP/RSS); otherwise, Modi may have to exit early Dec’25 with a suitable successor in place (Gadkari, Singh, and Shah).

Apart from these, growing controversies over the SEBI Chief about office of profit, corporate governance relating to various blue chip listed companies, political corruption, and quid-pro/extortion from corporates in the name of settlement/resolution may be some of the reasons for Nifty correction from present bubble zone.

Technical trading levels: Nifty/India 50 Future/CFD

Whatever may be the narrative, technically Nifty Future/ India 50 CFD (25300) now has to sustain over 25500 for any further rally to 25700*/26000 in the coming days; otherwise sustaining below 254450/25250, may again fall to 25150/25000-24900/24800 may again fall to around 24650/24500-24400/24300* and 24000/23700-23300*/23000 and further to 22800/22600*-22300/21800/21300* and further to 21150/21000*-20400/20000* in the coming days.