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1 Macroeconomic Update: CPI, WPI and IIP Headline CPI inflation for July-18 stood at 4.17%, 75bps lower compared to previous month mainly due to favorable base effect. Retail inflation print for June-18 has been revised downwards at 4.92%. Consequently, core inflation moderated to 6.28% vs 6.43% in previous month. On food inflation front, sequential momentum noted a rise in pricing pressures of 1.43% visà-vis 0.94% recorded in the previous month. Specifically, vegetables inflation noted upward thrust, rising to 8.56% in the current reading from 5.97% in the previous month. Fuel and Light component also expanded, rising by 1.16% compared to 0.88% in the previous month. Education inflation increased by 1.33% compared to 0.49% in last month. Notably, the rise in sequential momentum in July print was largely offset by favorable statistical base of ~167bps. Falling by 68 bps, July Wholesale Price Index came in at 5.09% as against 5.77% in the June mainly led by sharp fall in prices of minerals along with favourable base effect. The vegetable index alone saw a sequential rise of 18.36% compared to 15.72% in the previous month, whereas fuel prices fell by 0.29% in July compared to 2.97% in June. Monisha Chawla monisha@stcipd.com Industrial production rose by an astounding 7.0% in June-18 as compared to 4.0% in May-18. Broad based upward momentum was observed across Mining at 6.6%, Manufacturing at 6.9% and Electricity at 8.5%. Going forward, as the economy enters into a period of global turbulence, primarily emanating from trade war fears, it necessitates remaining watchful of evolving developments For the bond market, this easing in inflationary pressures has reduced the fears of a rate hike in the near term. However, with the recent rise in concerns regarding the depreciating domestic currency, rise in international crude oil prices as well as the government s ability to adhere to its fiscal deficit target amidst election season, market sentiment has turned weak. Going forward, favorability of monsoon rainfall would be essential to contain this upside threat to inflation trajectory. Coupled with the lack of investor participation and risk-averse market sentiment, the 10Y benchmark is expected to trade in the range of % in the near term. 1

2 Consumer Price Inflation: Headline CPI inflation for July-18 stood at 4.17%, 75bps lower compared to previous month. The latest inflation print was lower-than our own as well as market expectations of 4.50%. Notably, the rise in sequential momentum in the July print was largely offset by a favorable statistical base. Our analysis suggests that a sequential momentum of ~94 bps was moderated by a favorable base of ~167 bps leading to an overall decrease in headline inflation of 75 bps. On food inflation front, sequential momentum noted a rise in pricing pressures of 1.43% vis-à-vis 0.94% recorded in the previous month. Specifically, vegetables inflation noted upward thrust, rising to 8.56% in the current reading from 5.97% in the previous month. While the overall food basket contributed ~79 bps to the headline inflation, of this ~28 bps was specifically contributed by cereals and products component Going forward, one needs to be mindful of the impact of higher MSPs on food prices as well as favorability of monsoon rainfall. The Fuel and Light component also witnessed a rise in pricing pressures, growing by 1.16% vis-à-vis 0.88% previously. 2

3 6% 5% Fig 3: Contribution to Overall CPI Basket 8% 4% 3% 2% 1% 2.36% 3.28% 4.88% 5.07% 4.28% 4.58% % 4% 2% 0% Jul-17 Sep-17 Nov-17 Jan-18 Mar-18 May-18 Jul-18 Food and beverages Pan, tobacco and intoxicants Clothing and footwear Housing Fuel and light Miscellaneous 0% Inflationary momentum in Pan, Tobacco and Other Intoxicants saw contraction of ~ 0.44% compared to 0.25% in the previous month. Though sequential momentum in services inflation saw moderation of 0.38% (m-o-m), Education component rose by 1.33% compared to 0.49%. Overall, the Miscellaneous component contributed ~164 bps to the headline index, of which ~35% emanated from the Transport and Communications sub-component. Consequently, core inflation stood at 6.28%, downward from a revised 6.43% in June-18. In its Third Monetary Policy statement, RBI estimated Q2 FY19 inflation at 4.6%, H2 FY19 at 4.8% and 5% in Q1FY20. Contingent upon stable commodity cycle, kharif procurement and pro-active food stock management, our base case scenario suggests inflation to remain fairly in line with H2FY19 estimates. With RBI reiterating its intent to curb higher inflation while keeping evolving market conditions in mind, the current reading suggests that RBI may hold off hiking Repo rate in near term and instead wait to assess incoming data closely. 3

4 Wholesale Price Inflation: Coming in slightly lower than market expectations, wholesale inflation stood at 5.09% for July-18 compared to 5.77% in June-18. Strong inflationary pressures from the vegetables get offset by favorable base effect. Our internal analysis suggests that the deceleration of 68 bps in the overall headline can be attributed to sequential momentum of ~42 bps getting offset with favorable base of ~106bps bps. On a sequential basis, Primary Articles grew by 1.28% after posting as rise of 1.99% last month. Sub-component analysis suggests a significant rise in vegetable prices by 18.36% posed upside pressures on the overall index. On the other hand the volatile component Fuel and Power noted an moderation of 0.29% m-o-m as compared to 2.97% in the previous month. Momentum in Manufactured Products also moderated, growing at 0.09% m-o-m in July vis-à-vis 0.43% in June. The main contributors to positive momentum were Sugar at 4.01% m-o-m, Manufacture of textile at 1.044% m-o-m and Manufacture of paper and paper products at 0.91% m-o-m. On the other hand, contraction was observed in Manufacture of basic metals at -0.80% m-o-m and Manufacture of wood and wood products at -0.83% m-o-m. 4

5 Index of Industrial Production: Industrial production rose by an astounding 7.0% in June-18 as compared to 4.0% in May- 18 mainly due to a large favorable statistical base. Cumulative IIP for the first quarter of stood at 5.3%. As per sector based classification, contraction was observed in sequential momentum across Mining at -2.4%, Manufacturing at -1.2% and Electricity at -2.9%. Nevertheless, 19 out of 23 industry groups witnessed positive momentum led by Manufacture of computer, electronic and optical products at 44.1%, Manufacture of motor vehicles, trailers and semi trailers at 20.5% and Manufacture of other transport equipment at 15.6%. On the other hand, contraction was observed in Other manufacturing at -40.2%, Manufacture of tobacco products at -31.7%, and Manufacture of textile at -0.8%. Table 1: Annual Growth in IIP (%) June-18 May-18 Headline IIP 7.0% 4.0% Sector-wise Classification 1. Mining 6.6% 5.8% 2. Manufacturing 6.9% 3.7% 3. Electricity 4.2% 8.5% Use-based Classification 1. Primary Goods 9.3% 5.7% 2. Capital Goods 9.6% 6.9% 3. Intermediate Goods 2.4% 0.8% 4. Construction 8.5% 7.4% 5. Consumer Durables 13.1% 6.4% 6. Consumer Non-durables 0.5% -2.1% Source: MOSPI On the usage front, capital goods, which is the gauge of private sector investments, saw sequential expansion of 2.6% in June-18 after posting 7.1% in the previous reading. At the same time, primary goods saw a contraction of -1.4% (7.7% prev) while intermediate goods contracted by -1.1% (2.2% prev). While construction activity continued to expand by 0.6% against 4.9% in the previous month, consumer durables and consumer nondurables saw a contraction of -0.1% (6.4% prev) and -6.7% (3.6% prev) respectively. 5

6 Overall, even though the headline reading reflects strong momentum, this has been largely contributed by a statistical base as sequential momentum has dissipated. Nonetheless, sustained expansion in private investment is a positive indicator reflecting improvement in compliance of GST after the initial teething problems. With concentrated efforts to ensure a pickup in investment demand as well as efforts to improve ease of doing business, future outlook continues to remain optimistic. Outlook: With retail and wholesale prices moderated in the current reading, market sentiments remain buoyed. Though some moderation in price was broadly expected due to favorable base effect, this lower-than expected readings eased the fears of hiking policy rates in near term by MPC panel. However, with the recent rise in concerns regarding the depreciating domestic currency, rise in international crude oil prices as well as the government s ability to adhere to its fiscal deficit target amidst election season, market sentiment has turned weak. In our view, with the base remaining favourable in the following months, intensity of sequential pressures would determine the inflation trajectory. Nonetheless, we believe that the MPC could refrain from changing rates in near term and prefer to wait and watch incoming data. Amidst this backdrop, a weakening bias has become a norm of yield movement. We expect the 10Y benchmark to trade in the range of 7.75% % in the near term. 6

7 . CIN: U67110MH2006PLC A/B1-801, A Wing, 8th floor, Marathon Innova, Marathon Next Gen Compound, Off. Ganpatrao Kadam Marg, Lower Parel (w), Mumbai Dealing Room: (022) Settlements: (022) , Fax (022) Delhi Office: (011) Kolkata Office: (033) Please mail your feedback to stcipd@stcipd.com Website: THIS COMMUNICATION IS FOR PRIVATE CIRCULATION ONLY. IT IS BASED UPON THE INFORMATION GENERALLY AVAILABLE TO PUBLIC AND CONSIDERED RELIABLE. THIS REPORT DOES NOT CONSTITUTE AN INVITATION OR OFFER TO SUBSCRIBE FOR OR PURCHASE OR SALE OF ANY SECURITY AND NEITHER THIS DOCUMENT NOR ANYTHING CONTAINED HEREIN SHALL FORM THE BASIS OF ANY CONTRACT OR COMMITMENT WHATSOEVER WITH PRIMARY DEALER LTD. 7