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Fuel price hike impact adds to already rising inflation trend

CPI inflation (April 2022) 7.79% YoY

Key readings

* CPI inflation came in sharply higher at 7.79% in April 2022 compared to 6.95% in March and against market expectation around 6.5%

* Rise in inflation is broad based with food Inflation ring to 8.4% in April vs. 7.7% in March while core inflation rose to 7% vs. 6.3% during similar period

* Rise in food inflation may be attributed unfavourable base in vegetables and cereals and month on month rise in cereal, milk, fruits and spices. Pressure of higher global prices is visible in wheat and other prices with cereals inflation rising to 5.96% with a month on month rise of ~1% in last two months. In last six months, cereals inflation with almost 10% weightage has risen from 0.4% in October 2021 to currently at 6.0%. Similarly, inflation in spices has increased from 4.0% in December 2021 to 10.5% in April with sequential price rise indicating price pressure. In vegetables, the unfavourable base effect has led to sharp rise in inflation in last four months from -3.0% in December 2021 to 15.4% in April 2022

* Within core inflation, a 3% MoM rise in fuel and light (LPG) and transport and communication (petrol) led to higher print. In nonfood, MoM rise continues in clothing and footwear and household goods (utensils, FMCG items etc)

* While inflation print may have peaked in April (base effect favourable going forward), better monsoon and fall in global commodity prices will keenly watched for meaningful respite in inflation

* Headline CPI projection by RBI for Q1FY23 is at 6.3% and for Q2FY23 is at 5.8%. CPI for Q4FY22 was at 6.3%. Effectively, two quarters (Q4 and Q1) of CPI likely above 6.0% with third quarter projected at just below the threshold poses significant risk of RBI not meeting its inflation targeting role. Subsequent rate hike expectations in June policy has further strengthened given near term headwinds both locally as well globally

* Bond yields across the curve have already moved up significantly especially post rate hike in the first week of May. Incrementally, investment into debt funds may be considered in a gradual manner as market has already discounted continued rate hike in next one year

Looking deeper…

* Inflation at seven-year high: CPI print at 7.8% is at all-time high for the current series started in January 2015. International prices of food, oil and metal are trading at significantly elevated levels with pass through to retail consumers currently ongoing. Broad basing of inflation in almost all items is a cause of concern. Unless crude oil prices fall significantly along with other commodity prices, inflation is unlikely to come down below 6.0% for the next two quarters. From a debt market perspective, while the markets have already factored in a tightening environment, it is better to start investing only in a gradual manner over few quarters for long term debt allocation.

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