Fixed Income
Market Update
and Outlook
Market Update
and Outlook
Market Update
Resilient Global & Domestic Economy, data-dependent Global
bankers and growing food concerns
July’23 saw IMF revising upward global and India’s CY2023 growth forecast on back of
resilient hi-frequency indicators. While major central bankers did act by hiking rate
(US Fed, ECB) or adjusting monetary framework (like BoJ), overall commentary was
dovish with central bankers’ emphasizing on data dependent future actions. Back
come, late and erratic rains have led to food price driven inflation concerns. RBI
maintained status quo in August-23 policy, while revising up FY24 projections.
India
Monetary Policy:
In line with consensus expectation, RBI maintained status quo on policy rate. On the
backdrop of sharp rise in near term food inflation outlook (especially veggies) driven
by erratic rains & El Nino concerns, RBI has revised upward FY24 average inflation to
5.4% (June-23 policy : 5.1%)
On liquidity front, RBI has imposed incremental cash reserve ratio (CRR) of 10%
temporarily only on sharp increase in bank’s deposit between 19th May and 28th
July (on account of note ban, forex flows, government spending & RBI’s dividend).
Reason behind: RBI’s discomfort on huge liquidity surplus in backdrop of inflation
concerns. Likely Impact: Expected to drain out ~1 trillion liquidity from system.
Inflation:
June 2023 CPI inflation rose to 4.81% y/y (Previous month: 4.31%y/y, June 2022:
7.01%y/y). Higher than expectations inflation print was driven primarily by sharp
sequential acceleration in food prices (especially Veggies). That said, core inflation
remained steady at modest 5.1%y/y for last couple of months from 6% plus centric
levels in FY23.
Fiscal:
Apr-June 2023 gross tax collections were muted on back of adverse base effect and
slowdown in momentum. Net tax collection growth contracted on aggressive
devolution to states. Expenditure growth was robust at ~11%y/y driven primarily by
emphasis on capital expenditure (especially road, railways, transfer to States), while
revenue expenditure was flattish. As a result, Fiscal deficit for first quarter FY24 stood
at 25% of budgeted estimates (1Q FY23: 21%). July’23 GST data indicates that overall
tax collections for first four months continues to remain strong.
External Sector:
June 2023 Trade deficit stood at US$20 bn (second highest in current calendar year)
driven up by adverse base effect and slowing momentum. While both exports and
imports continued to contract, 1Q FY24 saw high trade deficit print on the back of
relative underperformance of exports vis-à-vis imports. While global & demand
growth moderation are key drivers behind the contractionary annual growth of
exports and imports, value deflation (sharp decline in commodity prices) has helped.
Net Services exports continued to grow robustly at 17% y/y in 1Q, thereby helping to
fund current account deficit.
1Q balance of payment (BoP) is expected to remain modest ~1% driven by lower
commodity prices, slowing growth momentum (global and domestic) and robust
services balances.
July 2023 saw robust FPI inflows (mainly in equity) at US$ 5.8 bn. In fact, over last three
consecutive months, FPI flows have been robust 6 centric. Apr-July 2023 saw strong
inflows of US$20 bn – in sharp contrast to contraction of FPI flows of ~US$5.5 bn in
FY23.
Despite good FPI flows, likely RBI’s intervention in forex market kept rupee
range-bound in July, with appreciating bias. Average Rupee stood at 82.15 during the
month (Jun: 82.23; May: 82.34; Apr: 82.02). Rupee has appreciated marginally by
~0.65% against dollar in CY23 till date.
Liquidity:
From low of 0.5% of NDTL (net demand and time deposits at the start of financial year,
Core liquidity (system liquidity + government balances) improved robustly on the
back of RBI dividend, RBI’s intervention in forex markets, 2000 rupee note ban and
seasonality. Currently, core liquidity is tracking comfortably at ~2% of NDTL.
Yield Levels & Spreads:
Gsec yield remained range-bound during the month with volatility impacted mainly
by global news flows. July started on negative note with expectations of hawkish
global central bankers and concerns of food inflation. While sharp rise in veggies did
let to higher-than-expected monthly inflation print, rising China’s growth concerns,
lower than expected global inflation numbers, expectations of Global central bankers
closer to peak rates helped in bringing domestic yields down. 10-year Gsec started
the month at 7.12 and stood at those levels for first 10-12 day, thereafter better than
expected US inflation print, lower China growth numbers helped in bringing down
yield in 7.08 range for most part of month. While dovish US Fed policy helped, stronger
than expected US growth number, China stimulus led to yield moving up and closing
the month at 7.17% (June end :7.11%, May end: 6.99%, Apr: 7.12%).
10-year Term premia (10 yr over 365 days) rose further in July to average 26 bps (June
:17 bps, May: 7 bps, Apr: 17 bps).
Like G-sec, SDL yields started month on negative note, move down during the month
and then rose again towards end of month. 10 yr SDL traded in range of 7.36-7.44% to
close the month at 7.44% (May-June: 7.38%, Apr: 7.46%). July SDL primary supply was
robust at ~Rs.58,030 cr (Apr: Rs. 22,300 cr, May: Rs. 77,500 cr, June: 67,900 cr). The
average spread between 10 yr SDL over G-sec eased marginally to 29 bps during the
month (Apr: 38 bps, May: 32 bps, Jun: 30 bps).
Like G-sec & SDLs, AAA bonds yields was range-bound during the month, with 10 yr
AAA PSU moving in the range of 7.48-7.53% to close the month at 7.53% (Apr: 7.50%,
May: 7.41%, Jun: 7.44%).
Global
Growth:
Month saw expectations of global growth to remain resilient in 2H CY2023. IMF in its
latest World Economic Outlook, revised upward global growth to 3% for CY2023 (Apr
estimate: 2.8%) driven by both advanced and developing countries. With 2Q GDP
estimates coming better than expected, US Federal Reserve Chairman Chair Powell
expressed more comfort with a soft-landing outlook.
Monetary Policy:
July saw three major central bank actions in line with consensus (25bp hikes from the
Fed and ECB and an adjustment of YCC bands from the BoJ). Looking beyond the
actions, the underlying guidance from central banks was dovish. Both the Fed and
ECB maintained a hawkish bias but each refrained from guiding toward a September
move.
Inflation:
US inflation continued to glide down and stood at 3% level in June driven down by
broad-based decline. Global inflation has also been coming down driven down food
and fuel price decline. In fact, global food prices were in disinflation for eighth
consecutive month, with IMF’s FAO food index down by 21%y/y vis-à-vis 23%y/y one
year prior. Going forward, while inflation will come down, inflation trajectory is
expected to remain above global central bankers’ comfort level during 2H of CY2023.
Financial Markets:
US treasury yields moved up initially on expectation of hawkish Fed policy. Lower than
expected monthly inflation print helped in bringing down the yields. Better than
expected growth numbers released towards end of month resulted in yields moving
up again towards 4% levels. After starting the month at 3.86%, the US 10 Yr Treasury
bond yield moved down to 3.75-3.80 levels on lower inflation, only to move up in last
week on better than expected hi-frequency number. 10 yr UST closed the month at
3.97% (Apr: 3.44%, May: 3.64%, June: 3.81%). Dollar Index depreciated by 1.7% in July.
Calendar year till date dollar index has depreciated by ~1.6 bps.
Market View
- While Jun-23 saw rise in inflation concerns, late arrival of monsoon (along with issues with spatial distribution and erratic rains) has likely resulted in keeping food inflation high in July too. Jul-23 print is expected to be above RBI’s upper limit of inflation tolerance.
- Going forward, food price outlook will be determined by monsoon (spatial & temporal) spread, El-Nino impact and govt’s supply measures.
- Globally, the pivot to a data-dependent guidance of major Central Banks could add to market volatility as each data releases will be scrutinized to assess the impact on the future decision making.
- Going forward, the RBI is likely to take a balanced view on headline inflation and core inflation. We believe RBI is in for long pause, with next rate action likely in Apr-Jun 2024 quarter.
- Till the time the inflation edges down to 5% level, we expect RBI to actively manage liquidity ~1% of NDTL (Net demand and time liabilities).
Common Source:
RBI, CEIC, Finance Ministry, US Federal Reserve, European Central Bank (ECB), Bank of Japan (BoJ),
FAO, JP
Morgan, Central Statistics Office (CSO), MOSPI, IMF, CGA, CCIL, Commerce Ministry
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