“The current time offers both value and volatility”
What is your outlook on Indian debt markets and the yield curve after the Reserve Bank of India’s recent rate hike to rein in runaway inflation and the falling Rupee to an all-time low? Not long time ago ?
The combined fiscal and monetary stimulus during the lockdown has led to upward inflationary pressure around the world. This forced central banks, led by the Federal Reserve, to begin an aggressive rate hike cycle. Since the combined monetary and fiscal stimulus was much higher in developed markets at 15-23% of GDP than in emerging economies like India, the surge in consumption and inflationary impulse was greater in these economies, resulting in the most aggressive cycle of rising rates seen in developed markets in the past 40 years.
The Reserve Bank of India (RBI), for its part, raised rates by nearly 200 basis points in a bid to normalize monetary policy and bring domestic inflation under control. We believe we are in the final game on domestic rate hikes. The repo rate, which is currently 5.9%, is expected to peak at 6.25% in the current cycle. Swap pricing suggests Indian bond markets are more than adequately pricing the risks of further rate hikes and so we think the 3-5 Y point on the sovereign curve offers a lot of value for investors at this time.
Is the current environment conducive to a relatively aggressive investor who would like to pursue a risky, high-return strategy?
The past two years have seen above-trend growth driven by monetary and fiscal stimulus as well as historically low interest rates. It was a good environment for risky assets. Going forward, as rates normalize and growth impulses wane, the macroeconomic environment will become increasingly challenging for high-risk assets.
Should investors in the long term Debt funds and gilt funds stick to their investments during the rate hike cycle to maximize their returns?
Investors must maintain an asset allocation to extract maximum value from the markets over long periods. This is especially true during cycle peaks, and even more so for high quality fixed income allocation.
How will upcoming rate hikes by the Federal Reserve affect Indian debt markets? Will the high volatility persist over the next few months? Also, which fund categories are expected to perform well?
Developed market central banks are aggressively raising rates. As a result, bond market volatility soared and liquidity declined. India’s monetary policy must also take into account the risks of contagion from these developments. However, we continue to believe that the RBI does not need to be “in step” with the Federal Reserve. This view was echoed in the commentary by RBI Governor Shaktikanta Das. That said, we believe the current period offers both value and volatility. Investors would do well to choose the right products and extend investment horizons to weather the current volatility.
How should a retail investor approach debt funds in the current scenario?
Investors should maintain asset allocation and stick to high quality debt funds.