The Bank of Japan switched gears on Tuesday, deciding to bump up its interest rates from -0.1 per cent to a range of 0 to 0.1 per cent. This change was largely due to Japan's economy performing better than expected.
In the October-December period, Japan's revised GDP grew by 0.4 per cent, on an annualized basis, compared to the previous quarter, a turnaround from the earlier prediction of 0.4 per cent decline.
Meanwhile, the Japanese stock market witnessed a bull run after decades of stagnation this month as it breached the 40,000 mark for the first time in its history. However, analysts believe that, for Indian markets, the impact of this hike may not be as pronounced.
What does this turnaround mean for India?
The BSE Sensex dropped 736.37 points, marking a 1.01 per cent decline, to close at 72,012.05 on Tuesday. On the other hand, Nifty fell by 238.25 points, representing a 1.08 per cent decrease, settling at 21,817.45. High-selling pressure dominated the market. While India's benchmark indices reacted negatively post-hike, it was the broader outlook that played a larger role.
"Investors remained on edge as key central Banks globally are scheduled for rates meeting. We expect the market to remain in consolidation mode as cautiousness persists with the commencement US Fed meeting," said Siddhartha Khemka, Head - Retail Research, Motilal Oswal Financial Services Ltd.
India's stock market has reportedly remained the favorite emerging stock market of Japan, as evidenced by an 11 per cent growth in total assets of India-focused investment trusts in Japan during the month of January. This growth amounted to JPY237 billion ($1.6 billion), as per a report by Bloomberg.
Samir Bahl, CEO – Investment Banking at Anand Rathi Advisors says while levels of Japanese retail inflow have increased into Indian markets they are still relatively low and will not have any material impact. “The Interest rate hike is more likely to impact global bond market pricing & capital flows," he added.
As per analysts, Japanese offshore investments are expected to stay steady, given the continued accommodative stance of the central bank. The stabilization of inflation levels justifies ending negative interest rates without implying a withdrawal of support.
Another aspect that is keeping market participants on edge is the 'carry trade' aspect. It involves leveraging the interest rate differentials to make profits by investing in two different financial instruments. Mostly used in forex trading, people can borrow funds in a currency with low interest rates and invest in other financial instruments providing higher returns.
A Deutsche Bank's report in November had mentioned that the tightening of monetary policy in Japan can lead to the end of the enormous carry trade, valued at over $20 trillion globally.
Meanwhile, Japan's bond market has been doing well, with borrowers issuing a record $112 billion worth of yen-denominated bonds in the year ending March 31. It's expected that the total amount of bonds issued will reportedly remain high, ranging from 15.5 trillion JPY to 17.6 trillion JPY.
"The BoJ will persist with its purchases of Japanese Government Bonds, which will maintain a wide yield spread between Japanese bonds and those of other major economies," said Hitesh Jain Strategist Yes Securities India Ltd.
Similarly, major Asian markets offer comparatively higher yields. This rationale alleviates concerns that a significant shift in BoJ policy would have far-reaching global implications, given Japan’s substantial holdings of foreign securities totalling $4.5 trillion, he added.
