Welcome to Finance Unwrapped! We’ve simplified markets and compiled a list of only the most important facts and their implications.
The Elephant in the Room
The US is suffering from its highest inflation in over 40 years. Many had resigned to the fact that the after-effects of the US printing money during the covid-era would be bad. But no one knew that it would be this bad.
The USA’s CPI surged by 9.1% year on year in June, significantly higher than the 8.8% mark predicted by experts. The federal government has thus indicated that a second interest rate hike is on the horizon.
In fact, the hike may be as high as 75 basis points (again). For context, the USA hadn’t hiked interest rates so aggressively in over 28 years. These are not just numbers on a spreadsheet.
What happens in the US is bound to impact India and the rest of the world. If this wasn’t clear already, the past week has reinforced the fact.
Why are Currencies Falling?
Short answer: the USA’s central bank is hiking interest rates. Long answer: read on!
The Euro reached parity with the US Dollar and fell below it in the same week. Parity is nothing but a fancy term for saying 1 = 1. While parity itself is a worrying sign of things to come, falling below parity is rare.
In fact, the Euro hasn’t fallen below parity with the USD since July 15, 2002. The Euro was in its infancy back then as actual coins and notes for the European currency were launched on January 1, 2002.
Before that, the Euro was a unit of account used to settle trades, one that hit a historical low of $0.82 versus the USD in October 2000.
A weaker Euro is bound to impact the 19 countries that use it as their de facto currency. Moreover, EUR is the 2nd biggest currency in the world by global reserves, which means most of the world may be affected.
The reason behind this can be attributed to a combination of three factors. The EUR started the year strong but the conflict between Russia and Ukraine has pulled the currency down because:
- Energy prices have soared as Russia is pulling back oil supply
- Fears of governments rationing energy that will impact manufacturing and supply
As a result of these two factors and covid-era mismanagement, inflation in Europe surged to a record high of 8.6% in June 2022. Last but not least, the US central bank is hiking interest rates aggressively.
This spells bad news for every currency on the planet and not just the Euro. GBP, Yen, and Yuan are plummeting too. A stronger Dollar means the:
- USD’s safe haven status becomes even more solid
- US becomes an attractive economy for investing – investors may sell their investments in Europe (in EUR) and switch to the US (in USD)
- Cost of importing goods from the US goes up, leading to a potentially higher trade deficit
As per reports, the European Central Bank is planning to combat a falling EUR by hiking interest rates adding fuel to the phrase “fight interest rate hikes with interest rate hikes”.
The Indian Rupee has been falling much like other global currencies because the US has decided to aggressively hike interest rates. This may have a ripple effect on India’s economy if history is anything to go by.
INR hit a record low vs the USD on 14th July 2022 when it closed the day at 79.895 versus the Greenback.
First off, foreign investors may be tempted to exit the Indian markets as there’s scope to earn higher government-backed interest in the US. To invest in the US, they’ll have to convert their INR holdings to USD.
A mass FPI sell-off is known to add pressure on the INR. As we discussed in last week’s Finance Unwrapped, the Indian government has introduced measures to make investments in India more attractive.
But this move, as per experts, will take time to bear fruit.
Until then, the USD’s safe haven status & high interest rates are likely to be a deciding factor for foreign investors, especially when there’s an international conflict going on.
A hike in interest rates also means that various Indian companies will have to pay more for imports. The reason? Most international companies choose to accept payments in USD.
As with Europe, this is likely to have a bearing on India’s trade deficit which hit a record high of $25.6 billion in June 2022.
That said, context is important. The Rupee has been one of the best-performing currencies versus the USD over the past few years, which means pressure during circumstances like these was a given.
A falling Rupee is thus a combination of several factors stemming from the US’ bid to curb record-high inflation in their own country and the domino effect of inflation in other major economies.
Commodities 🔻 Equities 🔻
With an aggressive hike in interest rates and recession looming around the corner, investors are bracing themselves for less inflation and falling commodity prices.
Aluminium is plummeting. Cotton is crumbling. Lumber is tumbling. The list goes on.
Aluminium, which was one of the few commodities that had hopes of being bolstered by China’s infrastructure/stimulus plan, is also experiencing pressure due to US interest rate hikes.
Commodity August Futures Price
|Commodity||Futures Price||5-day Change|
Broadly speaking, falling commodity prices may come as a relief to companies who rely on importing them. Examples 👇
- Aviation companies may benefit from falling Crude Oil prices as buying fuel will become cheaper
- Auto manufacturers may welcome falling metal prices as they require aluminium, steel, iron, and others for production
- Textile manufacturers may find it cheaper to buy cotton in bulk if the prices drop
These are just some of the examples. Our world, industries, and economies are more interconnected than ever. That’s why falling commodity prices can have a domino effect across products and services.
Think of what goes into manufacturing a simple potato wafer. There are:
- Edible oil
- Laminated pouches (polyester)
An organization producing potato wafers will thus have to account for price changes for some or all of these commodities. But the harsh reality is that a falling rupee may pare the benefits of falling commodity prices.
Revisit the example. If the potato wafer manufacturing company imports machinery from a foreign nation, then it may have to fulfil the payment in USD. That means converting INR into USD at current all-time lows.
Again, we’ve circled back to the US and how the changes in their economy and currency affect commodity prices and India’s industries. The same concept applies to the Indian equity market as well.
Nifty 50 & Sensex looked like they were on the path to recovery last week. But crippling CPI data from the US has put a damper on the resurgence. Here’s how India’s premier Indices have performed this week.
Meme of the Week
Around the World in 80 Minutes
The largest commodity exporter in the world missed its GDP growth projection for Q2. In Q1 of 2022, China’s GDP grew by 4.8% but could only manage 0.4% in Q2 compared to analysts’ expectations of 1%.
Major Chinese stock indices and the Chinese Yuan fell after the news broke out.
- Hang Seng: 20,297.72 (-5.46%)
- SSE Composite Index: 3,228.06 (-3.38%)
- Yuan Vs USD: 6.77 (2-month low)
WSJ reported that Chinese tech giant Alibaba is being investigated for theft of police data. Alibaba’s shares dropped by 2.19% on Hang Seng and 4.89% on NYSE once the report was released.
A week after the death of former Prime Minister Shinzo Abe, Japanese markets and the Yen have experienced further pressure due to the macroeconomic climate.
- Nikkei 225: 26,788.47 (-0.39%)
- TOPIX: 1,892.50 (-1.06%)
Nikkei 225, Japan’s biggest stock market index, fell by 0.39% over the past 5 days but gained 0.54% on the last trading day of the week. Yen fell to a 24-year low against the USD after nearing the 139-mark on Friday.
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Disclaimer: This content piece is not to be construed as investment advice. Trading and investing in the securities market carries risk. Please do your own due diligence or consult a trained financial professional before investing.