Sovereign bonds have rallied in the past few weeks, helping the benchmark yield to ease substantially. On the back of the expectation of continuation of disinflationary pressures, the yield curve has inverted. Nevertheless, there are a number of factors, which might actually make RBI wait for longer than expected to ease policy rates, according to Emkay Global Financial Services.
''Most importantly, since Indian yields have historically been highly correlated with US yields, the normalization of the latter may have a hardening impact on the former. Further, strengthening US Dollar against major currencies, subdued (gross) financial savings of Indian households and fiscal consolidation are likely to tempt RBI to remain providential notwithstanding yield curve inversion,'' said, Emkay.
Notwithstanding our thesis of modest GDP growth (5% for FY15 & 5.6% for FY16), lower inflation, deleveraging and associated deceleration in credit growth, we believe that the scope for softening in interest rate in India will be limited due to a) US rates and monetary policy moving towards neutrality over the medium term; consensus 12 month ahead 10 year treasury yield is currently at 3.2% (Exhibit 8) and b) potential depreciation in INR/USD on the back of strong USD.
''We note that in contrast to the 2000-2004 situation when Indian 10-year Gsec yield eased substantially from 11% to 5%, partly aided by US Fed cutting rate from 6.5% to 1%, the ensuing phase will see US fed moving out of the 5-year ultra-easy stance,'' it added.
''We do not expect RBI to policy ease rates more than 50 bp in next 12 months. Accordingly, we expect 10-year Gsec yield to trade around 8.20-8.25% in the foreseeable future and 8% in the best case scenario,'' Emkay opined.
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