The exuberance in the bond market may see a longer-than-expected run

The Indian government bond market is perhaps the best looking place for investors right now. The value of their holdings has risen sharply as yields have dropped more than 50 basis points so far this month. Notwithstanding the stellar run, no one expects this exuberance to evaporate anytime soon.

“As long as oil is low and the global rate trajectory is on the downside, I think the market would consolidate at these levels; although lower levels cannot be ruled out,” said Soumyajit Niyogi associate director, India Ratings and Research.

In fact, analysts at Deustche Bank believe that yields could fall to the lowest level since 2008 when global financial crisis triggered a flight to safety world over. The bank predicts the 10-year benchmark yield to fall to 6% from the current 6.33%.

One cannot blame investors for being excited since conditions have never been this perfect for the bond market. Policy rates are headed lower as inflation is expected to be within the monetary policy target. Some such as Bank of America Merrill Lynch expect policy rate cuts to total another 75 bps this year.

Others such as Nomura Research believe rate cuts would be fewer but more liquidity infusion would be done. “We expect a more proactive liquidity stance to ensure better transmission of rate cuts that were already delivered,” the brokerage firm said in a recent note.

Reserve Bank of India (RBI) would soon detail a framework to spell out its stance on liquidity. Expectations on these too have coaxed investors to buy more. What’s more, globally bond yields are ultra low, even negative.

The last factor explains why foreign investors put in $2.5 billion into Indian bonds in 2019, half of which came in this month. They were second to only mutual funds in being the biggest buyers of government bonds. With corporate bonds seeming increasingly risk, mutual funds increased the safety net of their funds by buying government bonds.

But as much as bond market is about interest rate expectations, it is also about supply.The government’s announcement that it is willing to borrow offshore to lighten the burden of supply in the onshore market was a key trigger to bring yields down.

While enough has been said about the pitfalls of a sovereign dollar bond issue, the comments from New Delhi and RBI suggest this is a road they are willing to take. Meanwhile, the cocktail of expectations from policy rate cuts to more liquidity infusion is enough to keep bond traders buying.