Fed rate hikes and World War II tensions: Indian investors should consider the US

The expected series of US Fed rate hikes and tensions over Ukraine’s attack on Russia are having an impact on the stock market. Global markets are collapsing and equity valuations are slowly returning to a new normal. When it comes to investing, low-selling high-buying remains the best option, but it’s easier said than done. Therefore, for a retail investor, ‘market time’ is important, not trying to give the market time. So, in the current beer market scenario, should Indian investors look for opportunities in the US market to diversify their portfolio?

Anup Bhansal, Chief Investment Officer, Scripbox, FE shares his views with FE Online on issues that are affecting the international market and why it is understandable for investors to have a geographically diverse portfolio.

This is a challenging time for the global equity market. The patience of Indian investors, especially those with high shares in foreign or US equity markets, is being tested. There are two critical reasons behind this, one is the possibility of rising inflation and further rate hikes and second is the ghost of World War II in the face of Russia-Ukraine conflict.

The complex geopolitical situation may continue until the crisis is resolved. This adds to the already anxious investor sentiment, making the equity market more volatile. Although investors cannot control market movements, they can understand the forces that drive the market. Therefore, it can definitely help them to make their investment decisions more prudently.

Current world market conditions

In March of this year, the US Federal Reserve raised the Fed rate by 50 basis points. This is the first increase by the Fed since 2018. So why did the rate-setting committee decide to raise rates at this time?

The Federal Open Market Committee (FOMC), under the auspices of the Federal Reserve, is responsible for setting and controlling inflation targets and interest rates in the United States. Typically, the company targets an inflation rate of 2%. However, this year, to everyone’s surprise, the YOY inflation rate in March was 8.5% – the highest in forty years!

Since the 2008 financial crisis, the US Fed has been facilitating more funneling money into the system. With epidemics and global lockdowns, the Fed has expanded favorable policy terms and injected more money into the system.

It did support individuals in dealing with epidemic-induced financial pressures. However, rising food and energy prices have exacerbated the volatile economic environment as supply chains have been disrupted.

Currently, most countries are struggling with inflation. Russia’s aggression in Ukraine has made the situation worse. There is pressure on the global commodity supply chain, which has led to rising energy prices and prices of important commodities.

This situation, combined with the surplus money in the system, has contributed to the pressure of high inflation. As a result, the FOMC had to make an important decision regarding hiking rates. The Fed aims to gradually withdraw $ 9 trillion from the balance sheet. Thus the rate is likely to increase further in the coming months.

Significant market fluctuations are becoming the norm with these ups and downs. So the question is – should Indian investors consider investing in the US equity market? If yes, then why?

Why invest in the US equity market?

Bringing stability to the portfolio: One of the shortcomings of relying solely on the Indian market is the high volatility level in the domestic market. India is an emerging market, which is reflected in the portfolio return range. An analysis makes the fluctuations of returns quite clear.

After the 2008 financial crisis, the S&P 500 returns were down 20%, while the Nifty 50 returns were down about 60%. To understand what an investor would have experienced in the 2010 Nifty 50 or S&P 500, see the table now if he had invested one year before the date mentioned. The volatility in the Nifty 50 is more pronounced than in the S&P 500.

The US equity market is much more mature than emerging markets like India. So investing steadily in an established market can help investors bring much needed stability to their equity portfolio.

Helps to reduce inflation: A significant consideration when investing is to ensure that the rate of return is higher than the rate of inflation. Introducing US equity into your portfolio can add an extra layer to good growth.

Undoubtedly, investors may face instability in view of the current market conditions. Yet it is important to remember that market noise never outweighs long-term investment.

In the words of Carlos Slim Helu, “No matter how bad the crisis, courage has taught me… any good investment will pay off in the end.” The key is to be an investor, not a speculator.

The S&P 500’s annual 10-year return is 15.54% after adjusting for the currency conversion. Returns in the Indian equity market are usually between 12-14 percent. However, given its volatility, US equity investment could be a stable addition. Therefore, the presence of investors in both markets is understandable.

Good for diversification: Although the Indian market is affected by any change in US policy or market conditions, there is very little correlation between the two. Mutual relationship refers to the relationship between two variables and the direction in which one will move as a result of a change in the other.

The correlation between Nifty 50 and S&P 500 for a period of 10 to 20 years is between 0.13 and 0.16. A correlation near 1 indicates that if a change is made to the first variable, the second variable has a higher probability of moving in the same direction.

The correlation between Indian and US markets is very low (adjustment for exchange rate). This reflects the fact that the Indian market is affected by any change in the US market, but that change is quite limited. A less reciprocal relationship makes it a suitable opportunity for investors to diversify their portfolio.

Diversification helps investors survive market fluctuations. Therefore, investors should consider reasonable exposure to US equities, like gold. After all, as John Maynard Keynes puts it, “Of course it’s better to be fairly right than wrong.”

Bottom line

Investors may have to go through some paperwork under the Liberalized Remittance Scheme (LRS) guidelines to pursue direct investment options for US equity. According to RBI guidelines for LRS, Indian investors can send up to USD 250,000 in a financial year for foreign investment.

Investors should focus on acquiring assets year after year because “market time loses market time”. As an asset class, US equity makes a lot of sense for multiple asset purposes. Before introducing US equity into their portfolio, investors should account for their long-term goals and level of risk tolerance.

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