How RBI’s Monetary Policy Impact Stock Markets

By | June 6, 2018

Do you know how RBI’s monetary policy impact stock markets? You can take a decision whether to buy or sell sector specific stocks based on changes in different interest rate by RBI. Rate-sensitive stocks likely to move upward or downward whenever Reserve Bank of India announces credit policy.

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Understanding the relationship between interest rates and the stock markets can help you understand how rate changes might affect people lives. It also helps you to make better investment decisions. RBI’s monetary policy impact stock markets which include key policy rates.

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Policy Rates – RBI’s Monetary Policy Impact Stock Markets

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Repo Rate

Reserve Bank of India lends money to commercial banks like SBI, ICICI Bank, or any other banks whenever these banks go through a financial crisis. However, a bank can borrow funds from RBI by paying the interest rate and selling their securities and bonds. You can say, Repo rate is simply the rate at which RBI lends funds to commercial banks when they are facing a financial crunch.

Normally RBI makes changes to Repo rate to control excess liquidity, supply and inflation level in the country. RBI reduces Repo rate to boost growth by encouraging banks to borrow more funds. Likewise, to pump out excess liquidity and money supply, RBI increases the Repo Rate.

If the Repo rate fixed by the RBI is 6% p.a and the amount borrowed by a bank from RBI is Rs 1,00,000, the interest rate to be paid by the bank to RBI is Rs 6,000. 

Impact of Repo rate on stock markets

Whenever the repo rate is cut, you can expect that both the deposit rates and lending rates of banks to come down to some extent. Eventually, the interest rate paid on your loan may also come down. When you are getting a loan at a low-interest rate, then you are likely to go for buying car, property and much more from banks. Right? When the consumption rise, then revenue of manufacturer of these products likely to increase. The benefits will reflect in the share price of the rate sensitive stock.

The benefits will reflect in the share price of the rate sensitive stock. So, if Repo rate reduces then, rate sensitive stocks like Auto, Real Estate, Consumer durables likely to go up. Likewise if Repo rate increases, then stock prices will come down. So RBI’s monetary policy impact stock markets depending on the decision taken by Reserve Bank of India.

Reverse Repo Rate

Reverse Repo rate is the interest rate offered by RBI to banks for deposit into RBI’s. It is exactly opposite to Repo rate. Here, RBI borrows funds from commercial banks and in returns pays interest to banks which is known as Reverse Repo rate.

Suppose the reverse repo rate fixed by RBI is 5.75% p.a and a bank deposit Rs. 1,00,000 in RBI account, then RBI will pay Rs 5750 as interest to banks. Reverse Repo rate controls the money supply in the economy. It also lets commercial banks and other leading financial institutions to make profits within a short period of time.

When Reverse Repo rate increases, rate-sensitive stocks likely to fall as RBI encourages banks to deposit more which also helps RBI to deal with inflation. So, better watch this rate before making any trading decision.

CRR – Cash Reserve Ratio

CRR is the percentage of total deposit of any bank which has to be kept with RBI. Furthermore, the banks will not earn from its deposit and also do not have access to this amount. So, they cannot lend this funds for their commercial purposes.

If CRR is 4% p.a. and for instance a bank receives Rs. 1,00,000 from its depositors then, a bank will have to deposit Rs. 4,000 as CRR with RBI. Bank can not use Rs 4,000 for its commercial activities and left with Rs. 9,96,000 only.

As a bank cannot use this funds, so a CRR cut will have excess liquidity in the economy and banks can lend more. A CRR cut means you can expect auto, real estate and other rate-sensitive stocks likely to move up.

SLR – Statutory Liquidity Ratio

Besides CRR, banks also have to deposit a certain percentage of their deposits in specified financial instruments like Central Government or State Government securities. This rate of deposit by a bank with RBI is known as SLR.
However, unlike CRR, the banks may earn some amount as ‘interest’ from RBI due to SLR deposit.

If SLR is 20% p.a. and for instance a bank receives Rs. 1,00,000 from its depositors then, a bank will have to deposit Rs. 20,000 as SLR with RBI.

SLR also impact stock market like CRR and help you take a stock trading decision. An SLR cut also increases the liquidity in the system and boost growth.

The main objective of this post is to help you to make informed trading decisions. However, the views given in this blog post or comments section are clarifications meant for reference and guidance only. You can explore further with your personal investment analyst.

I hope this post will help you to get quick insight on how RBI’s monetary policy impact stock markets. Comments below to know more about stock trading and investment ideas.

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Published on: September 11, 2017.

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