Mumbai: With the lot size of government borrowing tending towards the heavier side, the recent rally in the 10-year bonds is expected to reverse. As a result, investors who want to buy bond funds should sit tight till a clearer picture emerges in October, Amandeep Chopra, head of fixed income at UTI Asset Management Co. Ltd, said in an interview. Edited excerpts:
We are seeing Rs11,000 crore to Rs15,000 crore government borrowing every week to complete 63% of the programme in the first half of the year. How comfortable are you with the borrowing sizes and their frequency?
Graphic: Yogesh Kumar/Mint
The borrowings were expected to be front-loaded so the borrowing calendar has not thrown up a major surprise on that front. The higher percentage of issuance in the five-nine year segment can be taken a bit positively as its acceptability due to lower duration and hence relatively lower mark to market will be better in the SLR (statutory liquidity ratio) books of banks. However, the frequent issuance in our view could fatigue the gilt markets.
This time around, the Reserve Bank of India (RBI) looks like it doesn’t have enough room to manoeuvre. Last year, it had market stabilization scheme buyback and open market operations. How can RBI manage this borrowing programme?
Broadly, the twin overhang of gilt supply and inflation will continue to dominate market sentiment. The calendar for the first half of financial year 2011 points towards constant weekly issuance, which may lead to a sort of fatigue in the markets and keep yields under pressure. We expect most of the recent rally in the 10-year bond to reverse and the 10-year bond to broadly inch towards the 8% mark. However, we do not expect it to breach that level just as yet.
The last couple of days we have seen a sudden fall in yields. Is that sustainable? What year-end level are you looking at for 10-year bond yields?
The markets are going to look towards RBI for direction and support for borrowings. With policy rates trending towards a neutral level, it will be negative for the gilts unless RBI comforts the markets with open market operation support, which will clearly be required for the borrowings to go through without any disruptions.
However, the outlook from a 12-month perspective makes us believe that the 10-year bond should largely trade between 8% and 8.5% thereafter for most of the year.
Liquidity is expected to tighten after a few months, but the supply of paper will continue. Any thoughts?
RBI is clearly wary of rising inflation and after highlighting the risks will not like to step back from its intent to tighten liquidity and neutralize policy rates, so the overall tone will remain hawkish. We do not see any major global event in the focus of the domestic debt markets. However, yields at the short end of the money market are expected to revert to end-February, early March levels with the liquidity in the system returning to those levels next week. Banks will again have comfortable liquidity while credit offtake will remain relatively weak.
Do you think this is the right time for investors to buy bond funds?
Bond funds may not perform in this environment and mostly would look to trade or sit on a low duration. A clearer picture for the bond (and gilt) funds to increase duration in our view will emerge around October.