Below is the View On Debt by Mr. Pankaj Pathak Fund Manager – Fixed Income Quantum Liquid Fund & Quantum Dynamic Bond Fund
Persistent weakness in the Emerging Markets and surging crude oil continues to weaken the investor sentiment in bonds markets. This led to the Indian Rupee touching the low of Rs.74 per USD and the 10 year government bond yields topping at 8.23% in the past month.
An additional risk emerged in the corporate bonds space after the IL&FS and its subsidiaries defaulted on their debt repayments. This spread to broader NBFC companies as concerns on refinancing impacted share prices and bond yields of many NBFC issuers. Even the AAA PSUs were not spared and 2-3 year PSU bonds got traded at around the 9.0% mark at peak.
The RBI released multiple press statements to assuage the market on meeting liquidity needs of the system and also announced Open Market Operations (OMO) and Term Liquidity Repos. The RBI conducted an OMO of Rs. 100bn in September and announced to purchase total of Rs. 360bn of government securities under OMO in October.
The government also moved in to ease the pressure from the bond markets by cutting its second half borrowing program by Rs. 200bn. These measures led to a relief rally in the bond markets and the 10 year yield dipped below 8.0% mark on the announcements. But it could not sustain there for long and retraced back to 8.20% following sharp rise in crude oil and the US treasury yields.
Another positive surprise came from the RBI as in its bi-monthly monetary policy, the MPC decided to keep the policy rates unchanged at 6.5% against the market expectations of 25-50 bps hike. Bond markets cheered the move as the 10 year bond yield eased again to near 8.0% post policy announcement.
With this move, the RBI has sent a message to the markets that they won’t use interest rates to defend the depreciating currency. But at the same time to maintain its inflation fighting credibility they changed the policy stance from “Neutral” to “Calibrated Tightening” to indicate that if Oil prices increases they will hike the Repo Rate in the coming months. This stance also clearly indicates that the RBI will not be cutting interest rates anytime soon.
In July 2013, post the global episode of ‘taper tantrum’, the RBI had hiked interest rates by 300 bps (3%) to curb speculation on the Indian Rupee, which further depressed sentiment and led to an even sharper sell off in bonds, equities and currencies. With the Indian Rupee, depreciating now, market participants and analysts have been expecting a similar reaction by the RBI in hiking interest rates.
With the RBI now pausing, at a time when the Indian rupee has sold off sharply and markets expectations were riding high on a 50 bps rate hike, the RBI seems to be signaling that they don’t yet see the reason to panic on the external front. The Rupee is depreciating largely due to a rise in oil prices and the RBI has quite a few other means to manage the Rupee. They can sell dollars from their Forex Reserves, open a special window for Oil companies to borrow dollars directly from the RBI, offer higher interest rates on NRI Deposits to get inflows from NRIs.
The other reason for them to not hike interest rates could have also been due to the turmoil in the equity and credit markets. The issue with the default by IL&FS and the steep fall in stock prices of some banks and NBFCs has impacted sentiment in the broader market. The RBI, by hiking interest rates could have further hampered sentiment. As it is, Indian bond yields are already high enough with the 10 year government bond yield at above 8.0% and 3 year AAA PSU bonds near 9.0%. A 50 bps rate hike at this juncture may have led to a further increase in market interest rates.
The RBI having already raised the interest rate by 50 bps in the last 4 months also had the comfort from the slowing inflation. CPI inflation, especially food inflation, continues to shoot below RBIs projections and the previous two pre-emptive hikes does ensure that the RBI Repo rate is ahead of the current inflation trend.
However, given the trajectory of oil prices, if it stays at the current levels or moves up further, we would see the RBI hiking rates in the forthcoming policies. We thus expect the Repo rate to move up to 7.0% from the current level of 6.5% by March 2019.
With the OMO support and lower borrowing, the 10 year government Bond yield may hover around 8.0% for now and move towards 8.25% if the market expects RBI to hike by more than 50 bps. As for now, we still do not expect 10 year government bond yields to go up considerable above 8.25% unless macro situation changes materially.
If the INR continues to depreciate on falling equity markets and higher oil prices, we expect market interest rates to move higher from the current levels. Also, risks in the system would rise and investment sentiment will fall.
In such a scenario, we would advise investors to remain invested in debt funds which prioritize safety and high liquidity and manage money with prudence by being true to the investment objective of the fund.
Quantum Liquid Fund prioritizes safety and liquidity over returns and is invested only in less than 91 day maturity instruments issued by Government Securities, treasury bills and AAA Rated PSU bonds.
Quantum Dynamic Bond Fund, takes higher interest risks, but does not take any credit risks and is invested only in Government Securities, treasury bills and AAA Rated PSU bonds.
We have always advised investors in general to have a longer time frame if they invest in bond funds and should also note that the bond fund returns are not like fixed deposit returns and can remain highly volatile or even negative in a shorter time frame.
The views expressed here are the personal view of the Fund Manager. The views expressed here do not constitute any guidelines or recommendation on any course of action to be followed by the reader. The views are based on the publicly available information, internally developed data and other sources believed to be reliable. The views are meant for general reading purpose only and are not meant to serve as a professional guide / investment advice / intended to be an offer or solicitation for the purchase or sale of any financial product or instrument or mutual fund units for the readers. Whilst no action has been solicited based upon the information provided herein, due care has been taken to ensure that the facts are accurate and opinions given fair and reasonable. Recipients of this information should rely on information/data arising out of their own investigations. Readers are advised to seek independent professional advice and arrive at an informed investment decision before making any investments. None of The Sponsor, The Investment Manager, The Trustee, their respective directors, employees, affiliates or representatives shall be liable for any direct, indirect, special, incidental, consequential, punitive or exemplary damages, including lost profits arising in any way from the information contained in this document.
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