The month of October had a fair mix of highs and lows for debt markets. Early on defying market expectation of a 25 basis point rate hike, RBI chose to keep the rates stable. However, RBI changed its stance from ‘neutral’ to ‘calibrated tightening’ indicating that going forward a rate cut seems unlikely until RBI changes its stance.
On a positive note, oil prices corrected to 76$ / barrel after rising to 83$/ barrel. Moreover, RBI announced open market operations (OMOs) to improve liquidity conditions. While this brought some respite in government bond yields, the corporate bond yields remained under pressure. NBFC and HFC sectors continued to face liquidity crunch. The month also saw foreign outflows in both equity and debt markets.
How did funds react?
Long duration and gilt fund recorded higher returns compared to short duration funds in October owing to the fall in government bond yields post the open market operation (OMO) announcement.
We talked with Akhil Mittal, Senior Fund Manager, Tata Mutual Fund, Deepak Agrawal, Vice President, Kotak Mutual Fund and Dinesh Ahuja, Fund Manager, SBI Mutual Fund to understand market triggers in November and their near term market outlook.
Key triggers for the upcoming month
Market participants will be looking closely at crude oil price movement, currency movement, RBI’s OMO and other liquidity easing measures for cues in the coming month.
Markets will also track the 2Q GDP results and trade deficit numbers to get a better sense of likelihood of rate hike by RBI, said Deepak. US interest rates are also on market’s radar as they indicate the direction of foreign fund flows.
According to Dinesh, Iran sanctions are also a critical trigger due to their impact on oil price. Markets will also follow the outcome of US mid-term election to determine the legislative power of the Trump administration, he said.
For Akhil, any favourable move in crude and currency prices will fare well for government bond yields and hence, affect duration funds accordingly. In case of accrual funds, intervention by regulator is necessary to calm the jittery nerves and to provide sector specific liquidity. Until that time, it would be an anxious wait and watch, believes Akhil.
Outlook
Dinesh believes that government bond yields are likely to receive support from the OMO. To elaborate, government is planning to issue bonds to the tune of Rs. 44,000 crore while RBI has announced OMO operations of Rs. 40,000 crore. On the other hand, as the demand for corporate bonds is muted, any negative news will have greater impact on corporate bond yields, said Dinesh. Overall, he expects that the market mood to be cautious with market participants closely following fiscal deficit number in the near term.
Akhil too does not anticipate any major respite in debt markets. He agrees that the RBI’s OMO could be positive for g-secs. However, he feels that elevated crude and depreciating currency could exert pressure on debt markets. He expects some liquidity easing measures in addition to OMO should ease some pressure on corporate debt markets.
Deepak expects government bond yields to correct to 7.25% to 7.5% provided all factors fall in line - that is oil prices correct, rupee stabilises and RBI continues with the OMO. Moreover, state election are also a near term trigger. He expects some pick-up in foreign investor interest if the results are in favour of the current government.
Which funds should you recommend to your clients?
Deepak believes that investors with a short-term horizon (till March) can consider ultra-short term funds while investors with a longer horizon (up to three years) can consider short duration or dynamic funds as they have the potential to generate up to 2% excess returns over liquid funds in the long term. Retail investors can also consider investing in credit funds with a 3-year horizon, as they are currently available at attractive levels, he said.
According to Akhil, given the uncertainty surrounding markets, it is better to be cautious and buy lower risk in near term– both interest rate and credit (low duration funds). However, he undelined that India has come a long way in macro improvements, which should result in India being in better spot once the near term challenges subside. Investors with a slightly longer-term horizon can consider longer duration funds in staggered manner over period of next six months. In that sense, investors can look at dynamic or gilt funds with lower unsystematic (credit) risk.
Dinesh feels that currently ultra-short and short-term funds are available at attractive levels. Investors with no near term cash requirement can also look at FMPs to lock-in the high yields. Like Akhil, Dinesh too feels that investors who can stomach higher near term volatility (due to of elections) can consider making staggered investments in gilt funds over the next six months.
