Fixed Income
Market Update
and Outlook
Market Update
and Outlook
Market Update
El Nino concerns, rising food concerns and upward revision in
domestic inflation outlook
Monthly inflation print globally is gradually coming down on tight monetary policy,
growth moderation and improving supply issues. US Federal Reserve left policy rate
unchanged as expected but asserted in Jackson Hole symposium that more action
might be needed to tame inflation. Market continued to be impacted by China
growth outlook and preferred to look-through Chinese policymakers’ slew of easing
measures.
While India registered strong growth in 1Q FY24 (Apr-Jun) indicating strong domestic
fundamentals, it also witnessed food shock driven by veggies and rising concern on
food outlook on back of rain deficit. This has resulted in RBI revising up FY24 average
inflation projection.
India
Growth:
1Q FY24 GDP came in strong at 7.8%y/y (4Q FY23: 6.1%y/y and in line with expectations)
indicating robust growth momentum – driven by buoyant capex and improvement
in private consumption from demand side and services and construction on supply
side. Export growth contracted driven by weakness in global demand and was big
drag to GDP. Pick-up in private consumption and robust import demand indicated
strength of underlying domestic demand. Hi-frequency indicators including PMI, GST
collections indicates that the growth continues to remain resilient during
July-August.
Monetary Policy:
In line with consensus expectation, RBI maintained status quo on policy rate. Against
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 policy: 5.1%)
On liquidity front, RBI has imposed incremental cash reserve ratio (ICRR) of 10%
temporarily on incremental increase in bank’s deposit between 19 May and 28 July
2023 (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.
Inflation:
July 2023 CPI inflation accelerated to 7.44% y/y (Previous month: 4.87%y/y, July 2022:
6.71%y/y). Headline print was higher than consensus expectations of 6.6%y/y. Sharp
acceleration in Inflation was driven primarily by sharp sequential rise in food prices
(mainly veggies) and increase in momentum of fuel, housing and education prices.
Excluding veggies, headline inflation grew at 5.43%y/y (Previous month: 5.21%y/y; Jul
2022: 6.34%y/y). Core inflation continued to ease to 4.94%y/y (Jun 2023: 5.11%y/y; Last
year same period: 5.78%y/y).
Fiscal:
Apr-July 2023 gross tax collections were muted on back of adverse base effect and
slowdown in momentum. Net tax collection growth continued to contract on
aggressive devolution to states & muted tax collections. Expenditure growth was
robust at ~23%y/y driven primarily by emphasis on capital expenditure (especially
road, railways, transfer to States) & pick up in revenue expenditure. As a result, Fiscal
deficit stood at ~34% of budgeted estimates (Apr-Jul FY23: 21%). August’23 GST data
continued to indicate robust tax collections.
External Sector:
July 2023 Trade deficit stood at US$21 bn (second highest in current financial year)
driven up by slowing export momentum & resilient domestic demand. While both
exports and imports continued to contract, Apr-July FY24 saw a high trade deficit
print on the back of relative underperformance of exports vis-à-vis imports. Net
Services exports continued to grow robustly at 21% y/y during the first four months of
financial year, thereby helping to improve current account balances.
August 2023 saw moderation in FPI inflows (mainly in equity) to US$ 2.2 bn (as against
Avg monthly flows May’23 through July’23 US$6 bn). Apr-Aug 2023 saw strong inflows
of US$22 bn – in sharp contrast to contraction of FPI flows of ~US$5.5 bn in FY23.
Average Rupee depreciated in August by ~0.8% m/m and stood at 82.79 during the
month (Jul: 82.15, Jun: 82.23; May: 82.34; Apr: 82.02). Rupee has appreciated
marginally by ~0.13% against dollar in CY23 till date.
Liquidity:
RBI’s decision to impose incremental CRR of 10% in monetary policy meeting resulted
in immediate draining out of excess liquidity (~1.1 trn). This has resulted in Core
liquidity (system liquidity + government balances) moderating to ~1.3% of Net
Demand & Time deposit (NDTL) from ~2% pre-policy.
Yield Levels & Spreads:
G-sec yield were elevated during the month on higher-than-expected domestic
monthly inflation print and higher US rates. That said, the second half of month saw
rates cooling off a bit on tomato prices coming down and easing US rates on softer
flash PMI print and employment data. Shorter end rates were impacted by RBI’s
incremental CRR ratio due to reduction in system liquidity. 10-year Gsec moved in
range of 7.15-7.25% during the month and the month end was flattish at 7.17% (July
end; 7.17%, June end :7.11%, May end: 6.99%, Apr: 7.12%).
10-year Term premia (10 yr over 365 days) eased a bit in Aug’23 to average 22 bps
(July: 26 bps, June:17 bps, May: 7 bps, Apr: 17 bps).
Like G-sec, SDL yields were elevated and moved in the range of 7.42-7.49% to close
the month flattish at 7.43% (July: 7.44%, May-June: 7.38%, Apr: 7.46%). August-23 SDL
primary supply was robust at ~Rs.62,280 cr (Apr: Rs. 22,300 cr, May: Rs. 77,500 cr, June:
67,900 cr, July: 58,030 cr). The average spread between 10 yr SDL over G-sec eased to
25 bps during the month (Apr: 38 bps, May: 32 bps, Jun-July: 29-30 bps).
Like G-sec & SDLs, AAA bonds yields were elevated during the month, with 10 yr AAA
PSU moving in the range of 7.52-7.65%. It closed the month higher at 7.61% (Apr: 7.50%,
May: 7.41%, Jun: 7.44%, Jul: 7.53%).
Global
Monetary Policy:
In Jackson hole symposium, US Federal Reserve Chair Jerome Powell emphasized the
potential necessity to implement additional interest rate hikes in order to effectively
manage inflation. He indicated that further rate actions will be data dependent and
US Federal Reserve would continue to focus on bringing down inflation to 2% level.
Inflation:
US inflation rose marginally to 3.2% in July from 3% level in June, although the actual
print was better than consensus expectations. July Global inflation remained
unchanged at June levels despite increase in fuel prices. While global food prices
have been in disinflation for ninth consecutive month, (with IMF’s FAO food index
down by 12%y/y vis-à-vis 13%y/y one year prior), there is currently uncertainty about
food price outlook on El Nino concerns.
Financial Markets:
Month saw sharp increase in US treasury yields on higher supply concerns especially
at longer end and credit rating downgrade by Fitch. US yield eased off in last week of
the month on soft PMI data and employment data. After starting the month at 4.05%,
the US 10 Yr Treasury bond yield moved rose to 4.34 levels by mid of the month, only
to ease in last week on soft data.
10 yr UST closed the month at 4.09% (Apr: 3.44%, May: 3.64%, June: 3.81%, Jul: 3.97%).
Dollar Index appreciated by 1.7% in Aug’23. Calendar year till date dollar index has
appreciated marginally.
Market View
- July-23 inflation print came much higher than market expectations driven mainly by food. Although seasonally prices of food are high in month of July’23 (on account of lean period), the rise during Jul’23 was higher than seasonality driven by supply issues (limited stock, late monsoon, weather vagaries, and El Nino concerns). This was the second consecutive month of sharp acceleration in food prices.
- With 7% plus CPI (Consumer Price Index) in July’23 and August’23 print likely ~7% levels, RBI may revise further FY24 inflation projections in Oct’23 policy.
- Although, the latest CPI print is much above RBI’s comfort level, we believe RBI may likely take balanced view on headline inflation and core inflation.
- We still believe that long hawkish pause is a much likely scenario, with RBI probably wait and watch evolving food price trajectory before acting. Next rate action is likely in Apr-Jun 2024 quarter.
- Till the time the inflation edges down to 5% level, we expect RBI to actively manage liquidity.
- Since market expectations are in line with the RBI, we do not expect major movement in yields over the next three months.
- 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.
Common Source:
RBI, Central Statistical Office (CSO), FAO, CEIC, JP Morgan, US Federal Reserve, Bank of England, US
Treasury
department, Commerce Ministry of India
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