As taper gathers strength, markets will quake more
While Indian stock markets have lost 4.1% over the last one week, and Turkey 5.3%—the rupee lost 1% while the South African Rand lost 2.4%—the only thing that can be said with certainty is that such volatility is here to stay. While most blame the Fed’s decision yesterday to cut its purchases of securities by another $10 billion, fact is the trajectory of the Fed’s taper was laid out last month itself in the Fed’s press conference. In response to a question on whether a monthly target of $10 billion could be assumed, Fed Chairman Ben Bernanke’s response was “that would be the general range”, after which he said the exact amount would be data-dependent—in other words, if US economic data was really bad, the Fed would consider reducing the amount.
Since the news emanating out of the US continues to be positive, market-participants should have factored in a $10 billion taper. If markets have still collapsed, it is because of structural weaknesses in most emerging markets are now getting exposed—to use Warren Buffet’s colourful phrase, it is when the tide goes out that you know who is swimming without their swimming suits. A look at the markets that have collapsed makes this clear. With a current account deficit (CAD) equalling 7.2% of GDP in the latest quarter, and a serious political crisis brewing, the collapse of the Turkish stock market is no surprise, though the dramatic hike in interest rates—the one week repo was raised to 10% from 4.5%—ensured the currency recovered over the week.
While India is also one of the so-called Fragile Five, the good news is that foreign investors came back into the market on Wednesday after withdrawing $1 bn from the debt markets and $329 mn from the equity markets over the previous five trading days. At 1.2% of GDP for Q3 2013, India’s CAD is more or less under control and, with $34 billion more forex reserves through the swaps, India looks reasonably placed. Each bad decision—like the one on LPG and on Aadhaar—however, makes India just that much more vulnerable. Policy makers would do well to pencil in serious bouts of volatility over the next few months as the taper gathers strength—in another 6-7 months, if things go to plan, the Fed will stop injecting a monetary stimulus, so markets are likely to be more volatile. For now, though, if investors are keeping one eye on India’s broad macro indicators, the other is on the opinion polls.