February 21

The relief in domestic bonds will be brief, with the benchmark 10-year yield likely to be within 6.55-6.85 per cent in the rest of FY2022 and within 6.65-7.50 per cent in FY2023, as per a Kotak Securities Ltd (KSL) report.

The near-term pause signal by the Reserve Bank of India along with supply pressure on the far-end of the curve should push the yield curve further towards steepness, it said.

Substantial volatility

“Bond markets have witnessed substantial volatility in February amid tightening global financial conditions, elevated crude oil prices, fears of faster domestic policy normalisations and heavy bond supply. Even as global conditions remain adverse, domestic factors seem to have taken a breather,” according to the report.

The KSL report assessed that the factors that are expected to weigh on market sentiments into FY2023 include faster global policy normalisation amid persistently high inflation; elevated energy prices amid supply and geopolitics risk; heavy domestic bond supply; limited RBI support; and foreign portfolio investor (FPI) outflows risks due to adverse global financial conditions, geopolitical risks, and narrowing interest rate differentials.

Kotak Securities noted that the frontloading and compounding impact of most of the aforementioned factors should push the 10-year benchmark yield towards a peak of 7.40-7.50 per cent in H1 FY23 before moderating in the range of 7.15-7.35 per cent in H2 FY23.

Furthermore, the yield curve is likely to continue to bear steepen through most of H1 FY23, amid the RBI’s postponement of explicit policy rate hikes and supply pressure on the far-end.

The report said the February RBI Monetary Policy Committee meeting surprised with a dovish tilt despite the faster tightening of global financial conditions amid broad-based inflationary risks. It observed that RBI’s relatively soft growth-inflation forecasts for H2 FY23 have clearly postponed any explicit shift of policy actions, at least, until the June policy.

“We believe the RBI will need to achieve overnight money market rates closer to repo rate (stated MPC mandate) followed by a change in stance and reverse repo rate hike before changing the repo rate. We retain our call of 50 basis points (bps) of the repo rate hike in FY2023 starting in August although the timing will depend on upside surprises to RBI’s H2 FY23 inflation estimates,” the report said.