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Business News/ Markets / Commodities/  Why India's bond yields crashed after RBI pauses rate hike? 10-year treasury may hit 7.4% in near term
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Why India's bond yields crashed after RBI pauses rate hike? 10-year treasury may hit 7.4% in near term

The market was divided going into the policy with the swaps market pricing in a 50% probability of a pause. The yield curve has steepened marginally with the 5yr G-sec yield down by 10-11bps and the 10 yr yield down by 6-7 bps.

In an unexpected move, RBI kept the policy repo rate under the liquidity adjustment facility (LAF) unchanged at 6.50%.Premium
In an unexpected move, RBI kept the policy repo rate under the liquidity adjustment facility (LAF) unchanged at 6.50%.

India's bond yields crashed on Thursday after RBI decided to pause in the repo rate hike cycle. Markets cheered RBI's latest policy outcomes and tapped equities. Going ahead, investors are likely to focus on RBI's liquidity management and global yield performance. The country's 10-year treasury is expected to hit at least a 7.4% level in the near term.

On Thursday, the 10-year treasury yield dipped marginally to end at 7.22%, while 5-year and 7-year yields also edged lower to 7.06% and 7.11%. 52-week and 2-year yields ended lower by 0.2% and 0.1% to 6.95% and 6.92% respectively.

In an unexpected move, RBI kept the policy repo rate under the liquidity adjustment facility (LAF) unchanged at 6.50%. Subsequently, it also kept the standing deposit facility (SDF) rate unchanged at 6.25%, while the marginal standing facility (MSF) rate and the Bank Rate were also unchanged at 6.75%.

According to Suman Bannerjee, CIO, Hedonova, the RBI did the right thing by keeping the repo rate unchanged. Inflation is on the path of taming down but credit is still tight. Easing U.S. yields have led to similar moves in local bonds, with the 10-year US yield easing to around 3.28% on Thursday as US job data in February dropped to the lowest level in nearly two years, implying the labour market is finally cooling. The RBI could need to watch the economic data for another 3 months before repo rate can actually be reduced.

Puneet Pal, Head-Fixed Income, PGIM India Mutual Fund said, "A pause not a Pivot," this is how the RBI governor chose to describe the outcome of the MPC meeting today. The MPC today unanimously decided to hold the policy rates while retaining the monetary policy stance at “Withdrawal of accommodation." The market was divided going into the policy with the swaps market pricing in a 50% probability of a pause. The yield curve has steepened marginally with the 5yr G-sec yield down by 10-11bps and the 10 yr yield down by 6-7 bps."

Further, Apurva Sheth, Head of Market Perspectives and Research, SAMCO Securities said, finally, the RBI took a break after a year of non-stop rate hikes. Corporates could now heave a sigh of relief that chances of further rate hikes from these levels are slim. However, RBI has still kept the window for further hikes open if inflation rises again or US Fed goes aggressive on rate hikes from here. India 10 Year bond yields have also witnessed a sharp cut of almost a percent after the announcement. Yields have been consolidating in a range of 7.5% and 7.2% for more than six months. This is now showing signs of a breakdown on the charts indicating that markets expectation of interest trajectory from here is down.

In Edelweiss Mutual Fund's view, bond market participants cheered the move as they believe that the MPC is done with the rate hiking cycle and will not be able to raise policy rates going forward as headline inflation is likely to fall sharply to around 5.1 to 5.4% range in H1FY24. Recent fall in UST yields have also improved sentiment in the bond market.

However, Edelweiss' note also said, to be sure, RBI governor has emphasized that the decision to pause is only for the current policy and MPC’s job is not done yet and the war against inflation will have to continue.

Going ahead, Pal added, "the market will focus on RBI’s liquidity management and global yield movement. Supply pressure can negate any meaningful downside in yields and we expect the benchmark 10 yr bond to trade in a broad range of 7.00% to 7.40% over the next one quarter."

Lakahmi Iyer, CEO-Investment & Strategy, Kotak Investment Advisors believes that no change in stance means RBIs is preparedness to act if the need arises. While pause doesn’t mean pivot yet, global central banks actions will hold the key going forward. Bond yields after initial euphoria May look to oscillate basis demand-supply in upcoming auctions."

While Radhavi Desphande, President & Chief Investment Officer, Kotak Mahindra Life Insurance Company Limited said, "A longish pause continues to be our expectation. While stabilising Brent oil and monsoon verdict remain key events to watch, the bond levels will now focus on demand-supply and liquidity guidance from time to time. Meanwhile we expect 10-year GSec to stay in the 7.20%-7.40% range."

Edelweiss added in its note, "We expect the sovereign yield curve to steepen gradually as market participants unwind the expected rate hike at the short end. Long-end of the yield curve (15Y+) is expected to under-perform relatively amid higher fresh supply in H1FY24 and potential decline in demand amid recent changes in tax laws. We prefer 5- to 10-year segment of the yield curve for its liquidity and relative value at current levels."

In its note, ICICI Securities analysts said, "The RBI Governor indicated it may not be the end of the rate hike cycle and the next policy move depends on incoming data. However, with inflation now projected at 5.2% for FY24 and Fed unlikely to hike rates further given weak economic data, the rate hike cycle in India has peaked in all likelihood."

Finally, ICICI Securities note concluded that "the current spread of 70 bps of 10-year G-Sec yield (7.2%) over repo rate (6.5%) is near historically higher end of the range during peak repo rate period. This spreads shifts lower as the market starts factoring in rate cuts. We believe the yield across the G-Sec curve likely peaked at current levels."

With the repo rate being anchored at 6.5% and average term premium of ~75 basis points for the 10-year, Edelweiss MF expecs the benchmark 10-year IGB to trade at the lower-band of its trading range of 7.15% to 7.35% in the medium term amid positive change in sentiment and need to add duration in actively managed fixed income funds going forward.

To investors, Edelweiss' note said, "investors should consider increasing duration in their fixed income portfolios without further delay, in our opinion. Most central banks are likely to reach their terminal policy rate in this quarter. This should support the positive sentiment in the bond market. Investors should consider investing in 5- to 10- year maturity bucket through suitable funds for their fixed income allocations."

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Published: 06 Apr 2023, 11:14 PM IST
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