Global mkts fully pricing in Fed hike to 5.5%; Indian equities at risk: UBS

Indian equity markets appear expensive and face a downside risk if the US Federal Reserve (US Fed) hiked rates to 6 per cent to tame inflation, wrote analysts at UBS in a recent note. Global equity markets at the current levels, UBS said, are fully pricing in three further Fed rate hikes to 5.5 per cent.

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India, according to them, is among the more sensitive markets to US rates, and demonstrates the most sensitivity to local rates given higher influence of domestic flows into the market.

“We believe Indian equities have further downside risk on valuations, as support from domestic flows has room to weaken further with rates going up / staying higher, particularly if more sticky US inflation is fanned by rising oil prices amid China reopening. It is not helping that corporate earnings are showing signs of weakness: leverage levels back to pre-pandemic highs, working capital at 8-year high, inflation creeping into sticky costs,” the note said.

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Meanwhile, over the next few days, the focus will shift to the February jobs report (scheduled for Friday) and then Fed Chair Jerome Powell's testimony to congress on Tuesday and Wednesday. Analysts expect the US central bank to hike rates by 25 bps in the meeting next week, in continuation of a similar hikes done in the last two meetings. The Fed has hiked interest rates eight times since March 2022, including four consecutive 0.75 percentage point increases during this period.

"Modest increases in US 10-year nominal yields, of 10-30 basis points (bps) on a rolling 3-month basis, have typically been easy for emerging markets (EM) to digest. 'Pain thresholds' have typically set in above 30bps for EM forex, and above 40bps for equities and fixed income.

These levels began to be tested in recent days, and would likely be forcefully breached if a 6 per cent (or higher) terminal Fed rate were to be priced in," the UBS note said.