Gains, Gas and Grains 🆙 ⛽ 🥪

The markets gained 6% over the month, quite a respite post a brutally volatile June. The rise was despite another record on US inflation, which just makes a steeper rate hike, which in turn makes a US recession more likely. What’s up?

Gains 🆙

A few reasons for the recent rally:

1. The government cut the windfall tax on diesel and aviation fuel, and scrapped it on petrol exports. This sent refining stocks (mainly Reliance Industries) higher, pulling the index higher. On that note, did you know, the refining windfall has quadrupled profits for oil companies in the US?!

2. The US markets gained as corporate earnings were better-than-expected. Netflix and Tesla were the prime mood-raisers.

3. FPIs turned buyers last week. Any inflow into the Indian markets adds to liquidity support, which provides much needed relief rallies like the one we saw recently.

4. Dollar strengthening took a little bit of a break as the ECB raised rates by half a point. The ECB raised rates for the first time in 11 years, and that provided some support to the Euro.

5. As global central banks raise rates, and economies slow down, commodity prices have been seeing an anticipatory-fall in prices. Potentially lower demand = lower prices. And the number one problem right now is inflation. Any respite on inflation causes a wave of positivity.

Gas ⛽

Europe’s energy crisis could get a lot worse, and the last month has been a reminder to Europe on its dependence on Russia. After multiple sanctions on Russia, and cancelling the second Nord Stream pipeline, Europe also chalked out a plan to reduce dependence on Russian gas.

The rather vocal rebut by Europe came in despite depending on Russia for half its gas supply. It is rather counterintuitive to go against someone you’re so dependent on, without even having a solid backup plan; but well, that’s what happened.

And then last week, Europe got a bit of a teaser to what could happen. Gazprom, Russia’s largest natural gas company halted exports to three major European customers. Reason? Force majeure - a clause that’s almost necessary in every contract to give protection under extraordinary events, almost like the lightning that struck Paresh Rawal’s shop in OMG.

Moreover, the Nord Stream pipeline (the one supplying gas to Europe) closed last week for an annual maintenance. It’s operating at a mere 20% capacity. All this when gas prices in Europe are already 8x compared to last year.

It’s largely believed that Russia is using gas as a blackmailing tactic, under the guise of technical difficulties. The real scare now is what happens when winter comes. Winter is when the cold in Europe really needs some gas to heat up.

To counter these risks, the EU has been moving towards coal and oil as alternatives to fuel their needs; in turn driving prices for these commodities higher as well.

Overall, it’s spooking global markets, and it’s not a great place to be for energy-commodity-consumers like India.

Grains 🥪

Russia and Ukraine struck a deal to reopen grain exports through the Black Sea. This should help ease the ongoing global food shortage. They are both the top exporters of wheat globally.

There’s about 20 million metric tonnes of grain piled up at ports across the Black Sea, thanks to the Russian blockage. There’s hope for trade to get back to pre-conflict levels with the new agreement in place.

But the deal started on a rather bumpy note after Russia launched missile strikes on the Black Sea port city of Odessa.

Great progress towards resolving the food crunch, but its longevity can be questionable!

What next?

1. As inflation remains sticky at higher levels, central banks globally will continue raising rates. The degree and pace of hikes can send economies spiralling into a major slowdown / recession.

2. While commodity prices have been cooling off, the respite is basis anticipation. Sanctions and global shortages continue to remain, making the cool off unsustainable; unless there is a recession, which is also bad news really!

3. While short-term rallies prop up periodically, we are ruling out a structural turn in the direction of the markets as of now. Risks of a recession in the US and in the EU, sticky energy prices, and further strengthening of the dollar can keep upside under check.

4. Till then our approach continues to remain selective. We remain focused on finding value, hunting for tailwinds, with a preference for visibility, and valuation comfort.