How RBI Monetary Policy impacts the Stock Markets?

RBI Monetary Policy
Are you an investor in the stock market? If yes, then you might have heard about the RBI Monetary Policy every two months in news. Monetary Policy is basically a tool through which Reserve bank of India (RBI) control the money supply in the economy by controlling the interest rates. Understanding the relationship between interest rates & stock market will enable you to know how a change in interest rates brings a change in the stock index on either side & accordingly help you to decide your trade positions.

Let us understand what the key interest rates are & how they impact the stock market:

Repo Rate: We all approach to banks for a loan whenever we are short of money. Similarly, Banks (like SBI, ICICI, Axis Bank, PNB, etc) also approach to RBI (father of all banks or the central bank), whenever they are short of money. Therefore, the rate at which RBI lends money to the other banks is called Repo Rate.

Higher the Repo Rate, higher will the cost of borrowing to banks & if the cost of borrowing to banks is higher, they will pass on the ultimate burden of interest rates on their end customers, leading to a slowdown in the economy as the ultimate consumer will not be ready to bear the higher interest rates.

Similarly, if the rates are cut down, this will lead to growth in the economy, as the end customer will be getting a loan at a cheaper rate of interest. Therefore stock market would not like to see RBI increasing the Repo rates, as it will lead to economic crisis. Currently, the repo rate is 6% as on 5th April 2018. You can check the history of repo rate change at bankbazaar.com.

Reverse Repo Rate: Reverse Repo Rate is just the opposite of Repo Rate. It is the rate at which bank lends money to RBI. Now banks would always prefer to lend money to RBI against Corporate borrowers, as their money is safe with RBI. If RBI raises the reverse repo rate, banks will lend money to RBI, resulting in a cut in supply in the economy. The stock market will respond negatively if there is a hike in Reverse Repo rate. Currently Reverse repo rate is @ 5.75 % as on 6th April, 2018.

Cash Reserve Ratio (CRR): Every bank is required to keep a certain % of their deposit with RBI. The percentage of deposit which banks are required to keep with RBI every time is known CRR. For example, if the deposit with a bank is Rs.100000 & CRR is 4%, in that case, the bank is required to keep Rs. 4000 (i.e. 100000*4%) with RBI & the rest can be used by it for the lending purpose. Increase in CRR is again not good as it would pump out money from the economy.

If there is a rate cut by RBI, the stock markets move higher. You can check out here on moneycontrol.com when on 2nd Aug 2017 RBI reduced the repo rates & reverse repo rates by .25%, which led to a sharp rally in the indices. But, despite all these information, one has to stick to the news channels as stock markets run on sentiments/expectation, i.e. market discounts everything prior to the actual happenings. You can also check our other article on > which sector is most sensitive to RBI Monetary Policy.

Disclaimer: All the information compiled and presented here on this site is based on our financial background knowledge, years of practical experience, and recent research. But still we are not legally authorized to recommend stocks and so the information should be taken as our personal views only.