Fixed Income
Market Update
and Outlook
Market Update
and Outlook
Market Update
Rising Growth concerns, Elevated Inflation and Tight Monetary Policy
Aug’22 saw rising growth concerns (especially in Euro area and UK), record high inflation prints and global central bankers preparing the markets for hard landing to rein in inflation. In India, below expectations 1Q GDP growth signals growth slowdown,
while early August monetary policy indicates that external sector and inflation will be key-driver for future policy trajectory.
Inflation:
July 2022 Headline Inflation eased to 6.71% y/y (Consensus: 6.79%) from 7.01%y/y in June 2022. Core Inflation eased to 5.79% (Previous: 5.96%). Base effect and muted increase in food helped in bringing down the headline print. Average YTD FY23 inflation
print stood at elevated 7.28%y/y (4Q FY22: 6.34% y/y; Apr-Jul FY22: 5.6%y/y).
Globally, Inflation continued to remain elevated across countries. In fact, in Europe and UK, it rose further and are hovering in 9-10% range driven mainly by natural gas prices. No wonder, despite rising concerns about growth, the Central Bankers across
globe have been aggressively raising rates to tame inflation expectations.
Economic Growth:
Indian economy grew at 13.5%y/y in 1Q FY23 in backdrop of heighten global uncertainty (in form of war, supply issues, commodity shock). Aided by favourable base effect, from demand side, the growth was driven by improvement in private consumption and
exports. However, government spending and capex were key laggards. Further, sharp rise in import was major drag on growth. From supply side, agriculture, electricity, financial sector were the major growth drivers, while
manufacturing and construction were major laggards. Most importantly, this double-digit growth was lower than RBI’s projections (16.2%) and market expectations (14.5%) indicating slowdown in growth momentum in rising geo-political
risks sceanrio.
Globally, the recession concerns are rising. More and more hi-frequency data are supporting growth slowdown. Technically, US is already in recession, while Europe and UK are expected to go in recession in coming quarters. China’s CY2022 growth has been
revised down to 3.5%. Prolong War, broad-based inflationary pressures, aggressive front-loading of policy rate, tight financial conditions are likely to major headwinds to growth.
Monetary:
RBI has begun front-loading the rate normalisation process since Apr 2022, with ‘inflation’ taking forefront over the ‘growth’. Since June policy, inflation has moderated and imported inflation elements (crude, food and commodities) seems to have come
off from elevated levels and there are rising concerns globally of recession. Against the general expectations of dovish policy, the RBI in early August policy, continued with its front-loading rate hike cycle (50 bps hike)
with promise to do more. But this time, the policy dynamics were driven by external sector balances.
Persistently strong inflation has forced central banks globally to front-load and exercise larger hikes and withdraw surplus liquidity at faster pace. After hiking the policy rate by 225 bps hike since March, US Fed, at Jackson hole symposium, has clearly
indicated that inflation is the key focus and Fed is ready for hard landing, if required. Higher than expected inflation in Euro area and UK is likely to result in front-loading and higher terminal rate than normal times.
ECB officials have already indicated as much at Jackson Hole symposium. There are expectations of inflation to be in higher teens in coming quarters in UK, which in turn can force BoE to do more. That said. easing Global
supply chain constraints, deterioration in global PMI print & sharp fall in commodities indicates easing of prices pressures amid uncertainty.
India’s External Sector & Global Update
India’s August Trade deficit print came record US$28 bn (over US$30 bn in July), driven by elevated imports print and sharp decline in export. With average monthly trade deficit print Apr-Aug at US$26 bn (normal period: US$15-16 bn), there are growing
concerns about current account deficit, with consensus now expecting FY23 CAD in range of 3.5%-4% of GDP (much above RBI’s comfort levels of 2.5%). These external balances are already reflecting on rupee and RBI has been
intervening regularly in forex markets to reduce volatility of currency movement.
Tracking strong dollar and hawkish Fed, Indian rupee continued to remain under pressure. It even crossed 80 mark towards end of month on hawkish Fed comments at Jackson Hole symposium. Average Rupee was ~79.55 during the month (Avg July: 79.59, Jun: 78.07,
May: 77.27/US$, Apr: 76.09/US$, Mar: 76.26/US$, Feb: 74.96/US$, Jan: 74.44/US$). YTD CY2022 rupee depreciated by 7.3% against dollar. After witnessing net FPI outflows on risk aversion since Oct 2021 (cumulative outflow:
US$36 bn), there has been net FPI inflows since July. August saw robust FPI inflow (US$7.1 bn driven by equity flow.
After a jump in June, July-Aug saw decline in crude prices on global growth concerns. While crude prices remain volatile over Russian soundbites, brent crude decline by 9%m/m in July and 10%m/m in Aug. However, during YTD CY2022, crude rise has been sharp
(24%). Food prices also came down sharply in July 2022, on improved supply.
In the bond markets, US treasury yields rose sharply across the curve ahead of Jackson hole symposium, and on record monthly inflation print and expectation of hawkish future monetary policies. The US 10 Yr Treasury bond yield started the month at 2.60%
and rose during the month to close the month at 3.15% on hawkish Fed. (July end: 2.67%, June end: 2.98%, May end: 2.85%, Apr end: 2.89%, Mar end: 2.32%, Feb end: 1.83%, Jan 2022 end: 1.79%, Sep through Dec 2021: 1.5%-1.58%
range). On risk -off scenario, Dollar Index strengthened marginally (~0.2% m/m) in Aug. YTD Dollar index has rose by ~13%.
Yield Levels & Spreads:
Yields eased during the month on lower crude prices, positive FPI flows, lower YTD SDL flows, global growth concerns and expectations of inclusion in global indices. 10-year G-sec started the month on positive note at 7.25%, eased to 7.16% before policy,
rose post policy on hawkish monetary policy to 7.32% and thereafter was volatile with easing bias on fall in crude prices, issuance of new 10 year and expectation of inclusion in global indices. It closed the month at 7.18
levels (July end close : 7.32%,June end close: 7.45%, May end close: 7.42%, Apr end close: 7.12%, Mar end close: 6.84%). 10Term premia (10 yr over 365 days) eased further during the month to average ~104 bps (Jul: 120 bps,
Jun: 133 bps, May: 166 bps, Apr: 238 bps, Nov-Mar: 222-228 bps range, Oct: 244 bps, Sep: 253 bps, Aug: 259 bps) indicating declining premium and curve flattening on changing RBI pivot.
Like G-sec, 10 yr SDL yields eased during the month. It closed the month at 7.52% (Jul end :7.70%, Jun end: 7.78%, May end: 7.77%, Apr-end: 7.27%, Mar end: 7.18%). August SDL primary supply stood at Rs.59,526 cr (Jul: 52,990 cr, Jun: 42,500 cr, May: 57,740
cr, Apr: 10,000 cr). The spread between 10 yr SDL over G-sec stood at 35 bps (May-Jul: 29-33 bps, Apr: 21 bps, Feb -Mar: 35-37 bps, Jan 2022: 53, Dec 2021: 47).
AAA bonds yield were range-bound during the month, although the underlying narrative was of decline in yields. 10 yr AAA PSU started the month at 7.67%, eased during the month and close the month 7.51 lvls (Jul end: 7.7%, Jun end: 7.89%, May end: 7.77%,
Apr end: 7.35%, Mar end: 7.05%).
Market View
- Increasingly hi-frequency indicators globally (from growth, Purchasing Managers' Index (PMI), trade to commodities) are indicating loss of momentum. This has led to rising concern about recession, but with inflation expected to remain elevated, there is growing fear of hard-landing (US Fed, ECB comments).
- While RBI has retained latest inflation and growth projections at June’22 levels, the pressure from prices levels has come down since June on global and domestic cues. Also, household inflation expectations have come down indicating decline in inflation expectations. As a result, the market expectations for terminal rate has come down (from 6.25-6.5% in June’22 policy) to 5.75%-6% post policy.
With latest GDP print showing loss of momentum, external balances under pressure (high Current Account Deficit (CAD)) raising concerns about imported inflation, hawkish global central bankers, RBI has its job cut-down to remain hawkish for longer (although
it might achieve its terminal rate sooner).
Common Source:
CEIC, RBI, Commerce Ministry, US Federal reserve, ECB, BoE, CCIL, Bloomberg
Disclaimer:The information herein is meant only for general reading purposes and the views being expressed only constitute opinions and therefore cannot be considered as guidelines, recommendations or as
a professional guide for the readers. The document has been prepared based on publicly available information, internally developed data and other sources believed to be reliable. The sponsor, the Investment Manager, the
Trustee or any of their directors, employees, associates or representatives (“entities & their associates”) do not assume any responsibility for, or warrant the accuracy, completeness, adequacy and reliability of such information.
Recipients of this information are advised to rely on their own analysis, interpretations & investigations. Readers are also advised to seek independent professional advice in order to arrive at an informed investment decision.
Entities & their associates including persons involved in the preparation or issuance of this material shall not be liable in any way for any direct, indirect, special, incidental, consequential, punitive or exemplary damages,
including on account of lost profits arising from the information contained in this material. Recipient alone shall be fully responsible for any decision taken based on this document.