India GSEC Curve Dynamics
Published on: 1st December 2022
By Srinivas Puni
• Yields of different tenors typically have different triggering factors – short term yields are governed by the RBI rate action and the related expectations (say up to 2y or so) and bond yields move based on the demand supply dynamics in addition to some bit of expectations about the long term rate cycle.
• Over the past year, the 10y has moved higher around 6.35% to 7.20% and peaked around 7.4%. Primary drivers for the move are the lack of liquidity and fear about government borrowing program in addition to the global fund outflows and rate hikes in major economies.
• The short-term yields moved much more than the long end (1y moved from 4.3% to 6.9%) mirroring the sharp rate hikes from the RBI. The yield curve has flattened significantly, as is consistent with any rate hike cycle.
• Going forward, in the next 1y we expect around 50-75 bp rate hikes potentially and hence the short-term yields up to 1y can move higher by 25-50 bp from here. The long-term yields have softened slightly as US inflation seems to be tempering down. We do not expect a major move in the 10y and the range is likely to be 7.1%-7.4%.
• This is the base case scenario where global recession does not become too deep and trigger risk aversion. In such a case sometime in the 6m-1y timeframe, there is a chance that RBI might be forced to start considering a pause in rates and a cut later in 2023 or 2024. In such a case, there could be a rate cut cycle in 2023 end or 2024.
• In the panic event case, we think the 1y rate can actually fall a bit towards 6% and the 10y rate to remain elevated at 7.2% level (since the 10y would react to lack of fund flows in a risk aversion event, and the yield curve steepens)
• Net net, our views – 1y around 7%-7.2% and 10y at around 7.4% as the base case. But, panic scenario can see 1y fall towards 6%.