Wrap up of debt market in 2020
The calendar year 2020 started with the World Health Organisation announcing on 9th January that a deadly Coronavirus had emerged from Wuhan, China. The spread of the virus led to lockdown in most parts of the world, which in turn resulted in significant demand destruction.
In response, major central bankers responded by infusing liquidity and easing policy rates to support growth. India witnessed GDP growth rates of -24% and -7.5% in the first two quarters, respectively. The RBI responded appropriately to the pandemic by easing policy rates and liquidity using both the conventional (CRR) and non-conventional (Open Market Operations) tools available in its armoury. The bond market reacted accordingly with the short end of the curve witnessing the maximum easing thus leading to steepening of the curve. The table below shows the impact on various parts of the curve:
|
Tenor |
Central Government Bond |
AAA corporate bond |
|
3 years |
175 bps |
219 bps |
|
5 years |
140 bps |
162 bps |
|
10 years |
64 bps |
102 bps |
Source: Bloomberg (for the period 1st Jan 2019 till Dec 22, 2020)
The government bond curve lagged the AAA corporate curve primarily due to the larger supply on account of the lower revenues by the government. The monetary policy committee has further guided to continue with its accommodative stance as long as possible.
Currently, there is a lot of liquidity in the debt market as many investors have invested in fixed income funds post market rally. Will the trend sustain? Your views
While the MPC has committed to maintain its accommodative stance, the latest MPC minutes show that recent higher than expected inflation is a cause for worry. Also, members have been concerned that overnight rates have been lower than the reverse repo rate. Thus, there is a possibility of the RBI taking measures to reduce this difference while keeping ample liquidity.
Your outlook for 2021
While the recent economic data has been better than expected, it needs to be reaffirmed if this was on account of the pent-up demand post the lockdown which was followed by the festival season. While the MPC has shown signs of caution due to sticky inflation, the undergoing recovery still needs to be nurtured and would need continued policy support to make it more durable. A premature roll back of the accommodative policies could risk the nascent recovery. Incoming data, particularly growth and inflation, would have to be closely watched. Going ahead, successful containment of the virus would be a key trigger for future policy decision making.
Globally, large infusion of liquidity by central bankers has resulted in a renewed risk appetite, leading to rally in global commodity prices. This in turn could fuel inflation, which could be a sigh of worry for the central bankers. The December policy indicates the MPC shifting their approach from adding to the accommodative stance to now planning for an appropriate time for the withdrawal of the monetary and liquidity policies.
Which category of funds should MFDs recommend at this juncture?
Our recommendation would be for investors to have an appropriate asset allocation depending on their risk appetite. Timing the market is always very difficult and not advisable. Investors having a minimum investment horizon of 3 years could allocate money to either of the categories - short-term, medium term, gilt and dynamic bond fund.
