Federal Reserve Cuts Interest Rate: Impact on Indian Markets

The Federal Reserve has reduced its benchmark interest rate by 50 basis points, marking the first decrease since 2020. This decision signals the beginning of the central bank’s relaxation of restrictive policies implemented to control inflation. For 14 months, the Federal Reserve’s benchmark policy rate has remained in the range of 5.25% to 5.50%. This duration is longer than three of the past six periods where rates were held steady but is shorter than the 15-month pause before the 2007-2009 financial crisis and the 18-month hold during the “Great Moderation” of the late 1990s.

The decision is closely monitored globally, with expectations that the 50-basis-point rate cut could positively influence market sentiment. According to experts, this move may shape trends in financial markets, impacting trading sentiments on September 19. A recent report by Capitalmind Financial Services has highlighted the resilience of Indian markets over the past two decades, noting a pattern where Indian indices have either outperformed or kept pace with the S&P 500 despite the Federal Reserve’s monetary policy changes.

Historically, the Indian market, represented by the Nifty, has experienced various reactions to the Fed’s rate cycles. During the easing cycle from July 1990 to February 1994, the Nifty saw an impressive increase of 310%. Similarly, the tightening cycle from June 2004 to September 2007 resulted in a 202% gain. However, negative returns were observed during two tightening phases: from February 1994 to July 1995 and from March 1997 to September 1998, where returns dropped by 23% and 14%, respectively.

With the current global inflation and growth trends showing signs of moderation, experts suggest we might be nearing the end of this cycle of elevated interest rates. Vaibhav Porwal of Dezerv points out that historically, US rate cut cycles have resulted in negative equity returns in the US, with the Nifty following a similar trend in two of the last three instances.

The recent market activities saw benchmark indices such as the Nifty trading within a narrow range, influenced by hopeful investors worldwide awaiting the Federal Open Market Committee (FOMC) meeting outcomes. Siddhartha Khemka of Motilal Oswal Financial Services notes that the market consolidated after reaching a new high and closed with a loss. The Nifty midcap 100 and smallcap 100 indexes also experienced declines.

Investor advice is cautious due to the expected market volatility, particularly in rate-sensitive sectors. Analysis of options data indicates that market consolidation may continue, but significant open interest at certain strike prices also suggests possible rapid and volatile movements. Shrey Jain of SAS Online advises against holding overnight positions amidst the current uncertainties.