Fixed Income
Market Update
and Outlook
Market Update
and Outlook
Market Update
Improving Inflation Dynamics, Prioritising of fiscal
consolidation and robust growth outlook
Better than expected domestic growth, easing headline and core
inflation pressure, roadmap for rapid fiscal consolidation and
manageable external balances were key macro data-points for
Indian fixed income markets.
India
Union Budget:
In the latest budget (Feb 01, 2024), the finance minister has
improved FY24 fiscal deficit projection and put fiscal
consolidation on fast track in FY25 - with promise to adhere
to medium term fiscal consolidation target of 4.5% by
FY2026.
According to the budget, FY24 fiscal deficit (as % of GDP) is
estimated at 5.8% of GDP (Budget Estimate [BE]: 5.9%). This,
despite, moderation in nominal GDP. This is expected to be
achieved via buoyant revenue growth (tax + non-tax revenue)
and lower expenditure growth. In FY25, fiscal deficit is
expected to improve to 5.1% of GDP (against market
expectations of 5.2-5.4%) aided mainly through rapid
compression of revenue expenditure.
Fiscal:
April-Dec 2023 gross & net tax collections grew robustly by
~14%y/y and 11%y/y respectively - driven by buoyant direct tax
collections. Expenditure growth was muted at ~8.5%y/y driven
primarily by higher double digit capital expenditure, while
revenue expenditure growth was muted. As a result, Fiscal
deficit stood at ~55% of budget estimates (Apr-Dec 2022: 60%).
January GST data continued to indicate buoyant tax
collections.
Monetary Policy:
In February 2024 meeting, RBI retained status quo on policy
rate and stance – in line with market expectations. (It has
been one year since policy rate was last hiked). While the
inflation has gradually come down over the period, it is still
above RBI’s medium-term target of 4%. This, in addition to
robust domestic growth outlook, rising geopolitical
uncertainty, cautious global central bankers’, volatility in
domestic food inflation trajectory kept RBI cautious on
overall inflation outlook. RBI has revised downward FY25
inflation projections, while being bullish on growth outlook.
Further, as against the market expectations for easing system
liquidity, RBI only promised to actively manage liquidity -
with no concentrate measures announced.
Economic Growth:
According to the first advance estimate of the National
Statistical Office (NSO), the Indian economy grew at 7.3%y/y
(marginally better than 7.2%y/y in FY22 & higher than RBI’s
expectations of 7% y/y). The robust growth is expected to be
driven by double-digit capex growth from demand side and
industry (construction, electricity and manufacturing) and
services (finance, real estate and business services) from
supply side. Agriculture (from supply side) and private
consumption growth was muted.
Inflation:
In December 2023, CPI inflation rose to 5.69% y/y (Nov 2023:
5.55% y/y, Last year same period: 5.72%y/y), driven up
primarily by adverse base effect (especially vegetables).
Monthly print came better than the consensus expectations for
second month in row. Excluding vegetables, headline inflation
eased to 4.48%y/y (November 2023: 4.72%y/y; December 2022:
7.23%y/y). Core inflation continued to ease to record low
3.89%y/y (November 2023: 4.11%y/y; Last year same period:
6.08%y/y). This print was lowest since Dec 2019.
External Sector:
December 2023 Trade deficit eased to ~US$20 bn (Nov 2023:
~US$21bn) driven down mainly by contraction in imports
(especially oil) and improved exports. Net services exports
growth moderated to ~4%y/y on adverse base effect (Dec 2022:
39%y/y), although absolute print continues to remain robust.
January 2024 saw marginal contraction in FPI inflows (both in
equity & debt) to -ve US$ 0.8 bn, although FPI in debt funds
continued to remain robust for third month in row (US$2.4bn).
With this, Apr-January FY24 saw overall strong inflows of
~US$31 bn – in sharp contrast to contraction of FPI flows of
~US$6 bn in FY23.
Average Rupee was flattish against US dollar in January 2024
and stood at 83.12 during the month (Dec 2023: 83.28). while
Rupee has depreciated marginally by ~0.40% against dollar in
CY23, it has depreciated by ~1.1% in FY YTD (Apr-January
2023-24).
Liquidity:
January 2024 saw core liquidity (system liquidity + Government
balances) declined from daily average of 2.2 trn in December
to ~2 trn in January, on back of seasonally high cash demand &
credit pick-up. Negative System liquidity widen further in
January (daily average -ve Rs. 2.1 trn) as against daily
average of -ve Rs. 1.19 trn in Dec 2023.
Yield Levels & Spreads:
Fixed income yields continued to ease during the month -
driven by better-than-expected monthly inflation print, dovish
US Federal reserve and easing geo-political concerns.
ss10-year G-sec yield moved in the range of 7.18-7.22% before
inflation data and then eased a bit to move in the range of
7.14-7.16% range thereafter on improving inflation dynamics
and dovish US policy. 10 yr G-sec closed the month lower at
7.14% (Dec 2023: 7.18%, Nov 2023: 7.28%).
Money market rates continued to remain elevated during the
month on tight liquidity, robust government balances and
higher issuances. As a result, 10-year Term premia (10 yr over
365 days) eased further to 6 bps (Dec 2023: 10 bps) on
relative outperformance of longer end, while shorter end
yields remained more or less unchanged.
10-year SDL yields eased a bit and remained range-bound during
the month (range of 7.45-7.56% to close the month lower at
7.45% (Dec 2023: 7.62%). January SDL primary supply was higher
at Rs.1,04,521 cr (Dec 2023: Rs. 67,683 cr). The average
spread between 10 yr SDL over G-sec rose to 48 bps during the
month (Dec 2023: 41 bps) on higher supply.
In Jan’24, AAA bonds remained range-bound - with 10 yr AAA PSU
moving in the band of 7.65%-7.74% (Previous month:
7.65%-7.77%). It closed the month marginally lower at 7.63%
(Dec 2023: 7.65%).
Global
Monetary Policy:
After clearly indicating peaking of policy rates in Dec’23
policy, US Federal Reserve hinted, in Jan’24 policy, that the
rate cut cycle to start only after evidencing sustainable
decline in inflation. That said, Post policy press meeting
Federal governor speech was dovish, taking comfort from easing
inflationary pressures over last couple of months.
Inflation:
US inflation rose to 3.4%y/y in Dec 2023 (Nov 2023: 3.1%y/y)
driven by food, fuel and core services (Read: Shelter). Global
food prices continued to remain in double-digit disinflation
for thirteen consecutive months, (with IMF’s FAO food index
down to negative 10.1%y/y in Dec 2023 vis-à-vis -ve 1.4%y/y
one year prior). That said, there is uncertainty about food
price outlook (on El Nino concerns and erratic climate). Oil
prices rose in Jan’24 and average ~US$ 80/barrel (Dec 23:
US$78/barrel), on supply concerns (Red Sea issue, middle east
war etc)
Financial Markets:
During the month (Jan’24), US treasury yields rose during the
month on higher-than-expected monthly inflation print. US 10
Yr Treasury bond (UST) yield moved in the range of 3.91-4.18%
and closed the month lower at 3.99% (Dec 2023: 3.88%). Dollar
Index appreciated marginally in Jan’24, after depreciating by
1.7% m/m in Dec’23.
Market View
- In Union Budget (1st Feb 2024), better than expected consolidation of fiscal deficit with clear signal to adhere to medium term fiscal trajectory (4.5% by FY26) came as a big positive surprise to the markets. This along with further improvement in quality of expenditure (i.e capex focus) indicates fiscal support is likely to be non-inflationary and medium-term growth supportive buoyed market sentiments.
- Big surprise in the budget came in form of better-than-expected next year’s gross borrowing numbers (Rs. 14.1 trn as against market expectations of Rs. 15.3 trn)
- RBI left policy rate unchanged in February 2024 policy. Going forward, the RBI rate cut cycle size and timing may be influenced by evolving domestic inflation outlook along with global policymakers’ actions timeline. We believe RBI may cut the rates in 2H (Aug/Oct) of calendar year 2024.
- The curve is very flat in both corporate and G-secs. Going forward, we expect curve steepening bias likely to prevail in run-up to RBI rate cut. This may benefit short to intermediate duration funds. Absolute fall in yields may provide capital gains to long duration funds.
- Core inflation came below 4% in Dec 2023 and expected to remain muted in 4Q (Jan-March) FY24 helped by favourable base effect and muted sequential momentum.
- With domestic growth outlook expected to be robust in FY25, the RBI is likely to remain on hold in February 2024 policy. That said, with inflation dynamics improving and fiscal consolidation on fast track, we expect RBI may get headroom to change stance sooner than expected. We do expect RBI to continue to actively manage liquidity as effective policy instrument.
Common Source:
RBI, CSO, FAO, CEIC, NSO, JP Morgan, US Federal Reserve,
US Treasury department, Commerce Ministry of India, NIMF
Internal Research, Ministry of Finance
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