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Business News/ Industry / Rate-cut bets dumped in India signalling more distress for bonds
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Rate-cut bets dumped in India signalling more distress for bonds

Ten-year notes erased this year's gain after yields jumped 22 basis points last month, the most in almost two years

Returns from local notes in the past three months are the lowest among the largest emerging markets, indexes compiled by Bloomberg show. Photo: Pradeep Gaur/MintPremium
Returns from local notes in the past three months are the lowest among the largest emerging markets, indexes compiled by Bloomberg show. Photo: Pradeep Gaur/Mint

Mumbai: There’s more bad news for Indian sovereign bonds after their worst first-half performance in four years.

Economists dumped their predictions for a cut in the benchmark interest rate by March, with the Reserve Bank of India (RBI) now seen holding it steady at 7.25% through at least June, according to median estimates in the latest Bloomberg survey. Ten-year notes erased this year’s gain after yields jumped 22 basis points last month, the most in almost two years. Similar rates rose two basis points in China.

Bets for easing are fading as the crisis in Greece and the prospect of higher US borrowing costs add to the risk of faster inflation in Asia’s third-largest economy. Returns from local notes in the past three months are the lowest among the largest emerging markets, indexes compiled by Bloomberg show.

“The scope for another rate cut by the RBI in the current financial year has narrowed in recent weeks largely due to rising uncertainties on the external front," said Sumedh Deorukhkar, a Hong Kong-based senior economist with Banco Bilbao Vizcaya Argentaria SA. “I would expect limited downside for bond yields in India over this fiscal year."

RBI governor Raghuram Rajan flagged deficient rains, rising oil prices and external volatility as risks to India’s inflation while reducing rates for the third time this year on 2 June. Economists had been predicting a cut in the repo rate to 7% by March since the January survey, based on median forecasts.

First half

The 10-year sovereign yield was at 7.86% at the end of last month, little changed from 31 December. Its June advance was the steepest since August 2013. The rate dropped an average 35 basis points in the last three January-June periods.

Rajan raised the central bank’s January 2016 projection for gains in consumer prices to 6% from 5.8% last month, while linking further policy action to the strength of the June-September monsoon rains. The seasonal showers are forecast to be below-average for a second straight year, raising concern damaged crops may stoke food prices, which account for almost 50% of the CPI basket.

Inflation quickened to 5.01% in May from this year’s low of 4.87% in April, according to official figures. The 15% jump in Brent crude prices last quarter also threatened to add to price pressures as India imports about three quarters of its oil.

“We have a view that oil prices are likely, or rather commodity prices are likely to go up in the second half," said Samiran Chakraborty, an economist at Standard Chartered Plc in Mumbai. “That should also feed into the inflation forecast."

Bric returns

Rupee-denominated debt earned investors 0.4% in the past three months, compared with returns of 1.3% for Chinese notes, 3.7% on Brazilian securities and 6.6% for Russian bonds, Bloomberg indexes show.

Interest-rate swaps signal traders also pared bets for monetary easing. The cost to lock in borrowing costs for one year rose four basis points in three months ended June to 7.54%, halting a two-quarter decline, data compiled by Bloomberg show.

Federal Reserve chair Janet Yellen last month signalled that an improvement in the US economy is keeping it on track to lift borrowing costs this year, though subsequent increases are likely to be more gradual than anticipated earlier.

“The Fed rate hike will be a negative trigger," said Standard Chartered’s Chakraborty. “Emerging-market yields will start moving up on the back of it and our bonds will be impacted."

Standard Chartered now sees the repo rate being unchanged until September 2016, compared with its forecast of a 25-basis point cut as early as the current quarter in the May survey.

Bond risk

Investors have had to grapple with increased market volatility as the deadlock in Greece posed a contagion risk for emerging markets. Fifty-day swings in India’s 10-year government notes have widened to 9.88% from 8.53% at the end of May.

Bond risk in India is climbing. Credit-default swaps insuring the notes of State Bank of India, a proxy for the sovereign, against non-payment for five years rose to 173 basis points on 1 July, the highest level since 20 January, according to data provider CMA.

“Globally, risks are rising," said Sujan Hajra, a Mumbai-based economist at Anand Rathi Financial Services Ltd, who also cited governor Rajan’s hawkish comments at the last policy review among reasons for his forecast of a pause in rates until March. “In the near term, say for about three months, the outlook for government bonds is definitely negative." Bloomberg

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Published: 06 Jul 2015, 09:07 AM IST
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