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CRISIL’s outlook on near-term rates
June 2022
Research
Analytical contacts
Bhoomika Dattani
Manager, Funds & Fixed Income Research [email protected]
Purav Jagad
Senior Research Analyst, Funds & Fixed Income Research [email protected]
Aarti Yadav
Research Analyst, Funds & Fixed Income Research [email protected]
Rishika Todi
Research Analyst, Funds & Fixed Income Research [email protected]
Dharmakirti Joshi Chief Economist
Dipti Deshpande Principal Economist
Pankhuri Tandon Economist
Contents
Yields harden, spreads widen in volatile May 3
Factors influencing outlook 4
May at a glance 6
Research
The 10-year benchmark government security (G-sec; 6.54% GS 2032) opened at 7.12% in May and closed at 7.42%, within the 7.40-7.60% range forecast by CRISIL. It was up 28 basis points (bps) from the April close of 7.14%.
An off-cycle emergency meeting of the Reserve Bank of India’s (RBI) Monetary Policy Committee (MPC) on May 4 took the market by surprise. The MPC decided to raise the repo rate by 40 bps with immediate effect. Consequently, the repo rate stood at 4.40%, standing deposit facility (SDF) rate at 4.15%, and the marginal standing facility (MSF) rate at 4.65%. The yield on the 10-year benchmark closed at 7.38% that day, 26 bps up from the previous close. A similar movement was seen across the curve. The MPC also announced a hike of 50 bps in cash reserve ratio (CRR) to 4.50%
with effect from May 21. The move sucked out ~Rs 87,000 crore of liquidity from the banking system.
On May 9, the benchmark yield touched a high of 7.47%, led by global cues such as sharp increase in crude oil prices and high United States (US) Treasury yields, which were trading at the highest level since 2018, at ~3.12%. The 10-year US Treasury yield however eased after trading above 3% for five consecutive sessions, as crude prices cooled due to strong oil inventories and lower expected demand in China owing to continued Covid-19 related lockdowns. Domestic yields softened due to speculations about RBI support in terms of open market operations (OMOs). The positives due to lower US Treasury yield, fall in crude oil prices, along with multiple short covering in benchmark securities across the curve, led to a fall in the benchmark yield to 7.20% on May 12.
However, yields rebounded the next day post release of the Consumer Price Index (CPI) print for April at 7.79%. High inflation points to aggressive rate hikes by the RBI during the fiscal. Yields remained range-bound between 7.31-7.36%
through the week, reading into the less hawkish tone set in the MPC meeting minutes released mid-week.
That weekend, the finance ministry announced a cut in excise duty on petrol and diesel. Consequently, the benchmark yield hardened and closed at 7.39% in the next trading session, basis additional borrowing expectations. Brent crude prices remained stable at $115-117 per barrel between May 18-25, which helped the US Treasury and domestic yields to stabilise. But thereafter, prices surged to $120 per barrel over supply concerns and the European Union announcing a 90% cut in Russian oil imports by year-end. The benchmark yield closed the month at 7.42%.
The MPC further raised the repo rate by 50 bps to 4.90% on June 8. That pushes up the SDF, which represents the lower band of the interest rate corridor, to 4.65% from 4.15%. The RBI also sharply increased inflation projection for fiscal 2023 by 100 bps to 6.7%.
Yields harden, spreads widen in volatile May
One-month view
In June, yields are likely to be impacted by rising crude oil prices, rate decision in the MPC meeting, the RBI’s stance and forward guidance, inflation numbers, the US Federal Reserve’s (Fed) rate hike action, rising global interest rates, foreign portfolio investor (FPI) flows, investor appetite at G-sec auctions, and announcements of OMOs.
Three-month view
For the three months through August, the movement in crude prices due Federal Open Market Committee’s decisions on bank rates, MPC’s action on rates, trend in domestic GDP growth, FPI flows, passive products like ETFs to be launched in next month, and inflation numbers are factors that will dictate yields.
Framework for the outlook
CRISIL provides its outlook on key benchmark rates for different debt classes: 10-year G-secs, state-development loans (SDLs) and corporate bonds. The outlook is arrived at by combining statistical models with invaluable inputs from our experts. It also incorporates our view on policy expectations, macroeconomic outlook, key events (local and global), and market factors (liquidity and demand-supply).
CRISIL’s outlook
Benchmark May 31,
2022 (A) June 30,
2022 (P) Aug 31, 2022 (P) 10-year G-sec
yield* 7.42% 7.50%-
7.70% 7.55%- 7.75%
10-year SDL yield 7.79% 7.90%-
8.10% 7.95%- 8.15%
10-year corporate
bond yield 7.71% 7.90%-
8.10% 7.95%- 8.15%
Note: A: Actual; P: Projected;
*6.54% GS 2032 is the 10-year G-sec benchmark
On interest rates
Source: CRISIL Research
Research
Economic parameter Our view Impact on
yields Gross domestic
product (GDP) growth
• We expect India’s real GDP to grow 7.3% on-year this fiscal compared with 8.7% last fiscal. Risks are tilted to the downside
• Downside risks have risen on account of surging commodity prices, global supply disruptions, and slowing global growth. That said, growth is expected to receive support from improving performance of contact-based services and normal monsoon
• GDP growth slowed to 4.1% on-year in the fourth quarter of fiscal 2022 from 5.4% in the previous quarter
Consumer price index
(CPI) inflation • We expect CPI inflation to rise to 6.8% on average this fis- cal, from 5.5% in the previous fiscal
• Inflation faces broad-based pressures in food, fuel and core, as international commodity prices and input costs surge. An unusual heatwave this year, affecting food production, has added to the upside
• CPI inflation rose to 7.8% in April from 7.0% the previous month
RBI’s monetary policy • We expect the RBI to raise repo rate by another 75 bps in the remainder of this fiscal, with hikes being front-loaded
• A sharp rise in inflation, along with an increasing pace of monetary policy tightening by major global central banks, will drive RBI to raise rates
• The MPC raised the policy repo rate by 50 bps to 4.90%
on June 8. Consequently, SDF and MSF rose to 4.65% and 5.15%, respectively
Fiscal health • The budget has targeted a reduction in the Centre’s fiscal deficit to 6.4% of GDP this fiscal, from 6.7% (provisional estimate) the previous year
• However, the Centre’s gross market borrowing is higher at Rs 14.3 lakh crore, up from Rs 11.3 lakh crore previous year. 59% of the borrowing (i.e. Rs 8.45 lakh crore) will be conducted in the first half of this fiscal
Crude oil prices • CRISIL Research expects crude prices to average $108-113 per barrel in calendar year 2022, compared with an average of $70.4 per barrel previous year
• Brent crude oil prices averaged $112.4 per barrel in May, 6.2% higher on-month and 64.2% higher on-year
Factors influencing outlook
1Second Advance Estimate by National Statistical Office
Research
Economic parameter Our view Impact on
yields Current account
balance • We expect current account deficit (CAD) to rise to 3.0% of GDP this fiscal from an estimated 1.6% last fiscal
• Surging international commodity prices, in particular, of crude oil, will push up import growth. Export growth is expected to face headwinds with slowing global growth
• CAD widened sharply to 2.7% of GDP in the third quarter of fiscal 2022 from 1.3% in the previous quarter
US Federal Reserve’s
stance • S&P Global expects the Fed to hike policy rate by another 200 bps in 2022, followed by a 25 bps hike in Jan-March 2023
• The Fed raised policy rate by 50 bps to 0.75-1.00% in its May policy meeting. A reduction in balance sheet will begin in June
Liquidity indicators - Demand & Supply
Supply side
• After lower quantity auctions in April, SDL auctions picked up in May with total auction of Rs. 57,740 crs
• Corporate bond supply has picked up in month of May from April with total issuances of Rs. 17,382.44 crs
Demand side
• Lower trading volumes observed in SDL due to shift of participants to primary market
- Call rates/LAF (liquidity adjustment facility)
• Interbank call money rates hovered below the RBI’s repo rate of 4.4% in May owing to surplus liquidity in the system.
The RBI sporadically conducted variable rate reverse repo auctions during the month to absorb excess liquidity
Research
0.00%
0.20%
0.40%
0.60%
0.80%
1.00%
1.20%
1.40%
31-May-16 31-May-17 31-May-18 31-May-19 31-May-20 31-May-21 31-May-22
SDL spreads Corporate bond spreads 5.00%
5.50%
6.00%
6.50%
7.00%
7.50%
8.00%
8.50%
9.00%
9.50%
10.00%
10.50%
31-May-16 30-Nov-16 31-May-17 30-Nov-17 31-May-18 30-Nov-18 31-May-19 30-Nov-19 31-May-20 30-Nov-20 31-May-21 30-Nov-21 31-May-22
10-year G-sec 10-year SDL 10-year corporate bonds 6.90%
7.00%
7.10%
7.20%
7.30%
7.40%
7.50%
7.60%
29-Apr-22 30-Apr-22 1-May-22 2-May-22 3-May-22 4-May-22 5-May-22 6-May-22 7-May-22 8-May-22 9-May-22 10-May-22 11-May-22 12-May-22 13-May-22 14-May-22 15-May-22 16-May-22 17-May-22 18-May-22 19-May-22 20-May-22 21-May-22 22-May-22 23-May-22 24-May-22 25-May-22 26-May-22 27-May-22 28-May-22 29-May-22 30-May-22 31-May-22
Yields on the 10-year G-sec hardened 28 bps on-month in May, closing at 7.42%. Yields on corporate bonds (10-year PSU FI) rose 39 bps closing at 7.71%, while those on SDLs rose an even sharper 50 bps to 7.79% due to higher demand coupled with lower supply in weekly auctions.
Note: 10-year benchmark is 6.54% GS 2032 Source: CRISIL Research
Source: CRISIL Research
May at a glance
Source: CRISIL Research
Spreads of corporate bonds and SDLs over 10-year benchmark G-sec widen 10-year benchmark yield hardens
10-year benchmark G-sec yield
For the 10-year benchmark SDL, spread over the benchmark G-sec widened 22 bps over the past month to 37 bps. Meanwhile, spread of the 10-year AAA-rated public- sector corporate bond widened 11 bps to 29 bps. The 12-month average spread between yields of the 10-year benchmark SDL and corporate bonds over G-secs was 51 bps and 47 bps, respectively.
Repo Rate Hike of 40 bps
Rise in crude oil prices due to cut Russian crude oil imports by 90%
Short covering and expectation of OMO purchases by the RBI, fall in crude oil prices
Surge in crude oil prices, anticipation of additional borrowing to offset revenue loss due to excise duty cut in fuel
Fall in US Treasury over concerns about recession April CPI at 7.79%, Sharp
rise in US Treasury
Research
-1,000,000.00-900,000.00-800,000.00-700,000.00-600,000.00-500,000.00-400,000.00-300,000.00-200,000.00-100,000.000.00
30-May-21 30-Jun-21 31-Jul-21 31-Aug-21 30-Sep-21 31-Oct-21 30-Nov-21 31-Dec-21 31-Jan-22 28-Feb-22 31-Mar-22 30-Apr-22 31-May-22
Net liquidity injected [injection (+)/absorption (-)]*
(Rs Crore)
Net liquidity injected [injection (+)/absorption (-)] * 0.00%
1.00%
2.00%
3.00%
4.00%
5.00%
6.00%
31-May-2020 30-Nov-2020 31-May-2021 30-Nov-2021 31-May-2022
Term premium (10-year G-sec benchmark and TREPS)
The 10-year US Treasury yield closed at 2.85% in May, 4 bps lower than the April close of 2.89%. Softening of the yields was majorly due to concerns over recession in the US economy. Monthly average spread between the domestic 10-year benchmark G-sec yield and the 10-year US Treasury yield widened to 4.45% from 4.32%.
Spread over US treasury widens
Source: CRISIL Research
Average spread between the 10-year
benchmark G-sec yield and the tri-party repo (TREPS) narrowed to ~327 bps in May from
~350 bps in April. The 12-month average spread stood at ~310 bps.
Term premium between 10-year G-sec benchmark and TREPS narrows
Source: CRISIL Research
Systemic liquidity remains in surplus
Source: CRISIL Research Note: * Net liquidity is calculated as repo + MSF + standing
In May, average systemic liquidity was ~Rs 4.35 lakh crore, lower than the previous month’s ~Rs 6.54 lakh crore. Daily surplus liquidity reached a high of ~Rs 5.71 lakh crore during the month.
Average surplus for the past 12 months was ~Rs 6.53 lakh crore. The hike in repo and CRR in May can be seen as a step towards aligning the RBI’s liquidity management with the market conditions.
Net liquidity injected [injection (+)/absorption (-)]* (Rs Crore) 0.00%
2.00%
4.00%
6.00%
8.00%
10.00%
0.00%
2.00%
4.00%
6.00%
8.00%
10.00%
31-May-21 30-Jun-21 31-Jul-21 31-Aug-21 30-Sep-21 31-Oct-21 30-Nov-21 31-Dec-21 31-Jan-22 28-Feb-22 31-Mar-22 30-Apr-22 31-May-22
INR 10-year G-sec 10-year US Treasury Spread (R.H.S.)
Research
(22,935) (1,545) (2,476) (3,310) 3,958 1,641 (1,806) 4,079 (2,518) (6,488) (6,492) (118) (1,706) (4,829) (782)12,144 12,804 (1,558) 983 (11,799) 5,194 (3,073) (5,632) (4,439) (5,506)
-30000 -25000 -20000 -15000 -10000-5000 0 5000 10000 15000
May- 20 Jun-20 Jul-20 Aug-20 Sep-20 Oct-20 Nov-20 Dec-20 Jan-21 Feb-21 Mar-21 Apr-21 May-21 Jun-21 Jul-21 Aug-21 Sep-21 Oct-21 Nov-21 Dec-21 Jan-22 Feb-22 Mar-22 Apr-22 May-22
10,000.00 20,000.00 30,000.00 40,000.00 50,000.00
0.00 2,000.00 4,000.00 6,000.00 8,000.00 10,000.00 12,000.00
Mar-22 Apr-22 May-22 12 Month - Avg
SDL TBILL
CD CP
Corporate Bond G-sec (R.H.S.)
FPIs continue to pull out of debt
In May, net FPI outflow was Rs 36,518 crore, compared with Rs 22,688 crore in April.
Within this, net outflow in the debt segment was Rs 5,506 crore, and in equities, Rs 39,993 crore. The debt market may not attract flows in the near term, given the headwinds from elevated crude prices amid heightened geopolitical uncertainty, and rate tightening by the US Fed.
Source: CRISIL Research
(Rs crore)
Source: CRISIL Research
Average trading volume decreases across securities, barring CPs and CDs
Trading volume in SDLs, corporate bonds and G-secs fell ~63%, 22% and 6%, respectively. In case of Treasury bills (T-bills), trading volume decreased
~12%. In commercial papers (CPs) and certificates of deposit (CDs), volume increased by 36% and 24%, respectively.
Lower supply in SDLs and corporate bonds led to lower trading volumes.
Monthly average trading volume (Rs crore)
Benchmark spreads over G-sec
Spreads over G-sec*
Rating
category Date PSUs/
corporates NBFCs Housing finance companies
AAA 30-Apr-22 0.01% 0.39% 0.19%
31-May-22 0.05% 0.38% 0.26%
AA+ 30-Apr-22 0.81% 1.66% 0.88%
31-May-22 0.84% 1.66% 0.91%
AA 30-Apr-22 1.48% 4.27% 3.20%
31-May-22 1.51% 4.18% 3.25%
AA- 30-Apr-22 2.18% 4.81% 4.36%
31-May-22 2.20% 4.80% 4.43%
Note: *Spreads are for five-year securities over annualised G-sec yield Source: CRISIL Research
Research
Key downgrades and upgrades in May 2022
Downgrades
Issuer name Old rating New rating
National Insurance Co. Ltd. CRISIL AA CRISIL AA-
Upgrades
Issuer name Old rating New rating
Macrotech Developers Ltd. IND BBB+ IND A
Mintifi Finserve Pvt. Ltd. CRISIL BBB- CRISIL BBB
TVS Credit Services Ltd. (Perpetual) CRISIL A+ CRISIL AA-
TVS Credit Services Ltd. CRISIL AA- CRISIL AA
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