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How softer inflation brought buoyancy for bonds

MUMBAI: Bond traders put their fiscal worries behind and piled into government securities, with consumer inflation coming in at just about half the central bank’s target.

With the Monetary Policy Committee signalling it is concerned about the headline consumer price numbers rather than the core inflation, the possibility of bigger rate cuts is now being speculated upon.

“If inflation continues to surprise on the lower side, the market may start factoring in a 50-basis-point rate cut instead of a quarter percentage point that markets have been factoring in post the February RBI policy,” said Ashish Vaidya, head of markets for India at Singapore’s DBS Bank.

“Markets and policymakers are slowly moving towards more forward-looking actions instead of basing today’s action on past data,” he said.

Benchmark bond yields fell 7 basis points to close at 7.29% Wednesday. Bond yields and prices move in opposite directions.

Retail inflation, as measured by the Consumer Price Index, eased to 2.05% in January, an 18-month low and well below the consensus estimate of 2.45% with many believing that price rises will remain subdued in the next two-three quarters. The Reserve Bank of India’ target for retail inflation is 4%.

“Unexpected softening in the inflation reading has buoyed the bond market sentiment as traders are now building in at least one more rate cut in April,” said Sandeep Bagla, associate director at Trust Capital. “Sustained low headline numbers have more than offset the fiscal worries. You could expect a bond market rally to continue and sustain amid increasing trading activities,” he said. “This could reignite interest from overseas investors in the debt market too.”

Earlier, in the interim budget, the government pegged this financial year’s deficit at 3.4% of GDP, compared with its previous projection of 3.3%.

Overnight Interest Swap, a derivative gauge where investors exchange fixed rates for floating, has also dipped amid rising expectation of sharper interest rate cuts. The one-year maturity contract fell 12 basis points to 6.22% Wednesday.

Meanwhile, RBI governor Shaktikanta Das, who met global investors Tuesday in Hong Kong in a closed-door conference, exuded confidence over the government’s fiscal position, which will not spring any ugly surprise, said an investor, who attended the meeting.

“The governor was confident on a 3.9% retail inflation figure even in the worst case by December, which will still be 10 basis points less than the RBI’s target inflation,” the person said.

The benchmark bond yield is now likely to trade in the range of 7.15-7.35% compared with 7.20-7.40% expected last week, dealers said.

“With the latest CPI print, any doubts with respect to RBI’s revised forecasts should be put to rest for now,” said Suyash Choudhary, head – fixed income, IDFC AMC. This opens up space for one or even two more rate cuts ahead, especially given the evolving global growth concerns.”

Positive sentiment is also supplemented by global macros as the US Federal Reserve is not expected to raise fund rates with the central bank wanting to “normalise” interest rates.