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CRISIL’s outlook on near-term rates
March 2021
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Analytical contacts
Richa Dhariwal
Associate Director, Funds & Fixed Income Research [email protected]
Ankit Kala
Associate Director, Funds & Fixed Income Research [email protected]
Dharmakirti Joshi Chief Economist
[email protected] Dipti Deshpande
Senior Economist, CRISIL Ltd.
Contents
Volatile February 3
Factors influencing the outlook 4
February at a glance 6
Research
The yield on 10-year benchmark swung between 5.95% and 6.22% in February. It opened the month at 6.06% and closed at 6.22%, up 32 basis points (bps) from the January close of 5.90%. The movement was within CRISIL’s forecast range of 6.00-6.30%.
On February 1, the benchmark yield witnessed the highest single-day rise in over five months, due to wider-than- expected fiscal-deficit estimates announced in the Union Budget 2021-22. To fund the incremental deficit, the government announced an additional borrowing of Rs 80,000 crore in fiscal 2021 and a higher gross borrowing of Rs 12,06,000 crore in fiscal 2022. Higher supply of G-secs, rising US Treasury yields and crude oil prices put an upward pressure on yields. The market sentiment was further dented by the absence of a clear communication from the Reserve Bank of India (RBI) about open-market operations (OMOs) or any other measures to support yields. The central bank’s decision to restore the cash-reserve ratio in a phased manner in the Monetary Policy Committee (MPC) meeting – contrary to expectations of market participants – turned the sentiment worse.
The RBI signalled its discomfort yet again on rising yields by not accepting any amount for the 10-year and five-year benchmark paper in the weekly auctions. It eventually announced another round of OMO purchases of Rs 20,000 crore, boosting market sentiment and leading to a decline in yields. The yield on the 10-year benchmark paper eased further to the month’s low of 5.95%, as the special G-sec auction of five-year and 10-year bonds of Rs 22,000 crore was fully subscribed, along with an additional Rs 4,000 crore through the greenshoe option, at cut-off rates that were much below expectations.
The sentiment, however, quickly reversed as yields started rising again, largely tracking the rise in US Treasury yields and crude oil prices, despite the lower Consumer Price Index (CPI) print for January 2021 at 4.1% vs 4.6% for the previous month. As yields rose again, RBI devolved almost the entire amount of five-year and 10-year benchmark paper on primary dealers. The central bank’s announcement of a special OMO, against the expectations for an outright purchase of G-secs, had no impact on higher yields. All these factors led to a hardening of the 10-year benchmark yield by 32 bps on-month, and the paper closed the month at 6.22%.
Volatile February
One-month view
Factors that will affect the yields in March are: the OMOs;
switch auctions; any changes in actual borrowing compared with the proposed calendar; domestic and global growth trends; inflation numbers; investor appetite at the G-sec auctions; foreign portfolio investment (FPI) flows; global interest rates; and crude oil prices.
Three-month view
The factors that will impact the movement of yields in the three months through May are G-sec borrowing calendar, monetary policy outcomes, crude oil prices, domestic GDP growth and inflation numbers, global interest rates, and the OMOs.
Framework for 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 inputs from our experts. It incorporates our view on policy expectations,
CRISIL’s outlook
Benchmark February 28, 2021 (A)
March 31, 2021 (F)
May 31, 2021 (F)
10-year G-sec
yield* 6.22% 6.15%-
6.35% 6.20%- 6.40%
10-year SDL yield 7.10% 6.95%-
7.15% 7%-7.20%
10-year corporate
bond yield 7.22% 7.10%-
7.30% 7.15%- 7.35%
On interest rates
Research
Economic parameter Our view Impact on
yields Gross domestic
product (GDP) growth
• We expect India’s real GDP to grow 11% on-year in fiscal 2022, compared with an estimated growth of -8%1 in fiscal 2021.
• Growth in fiscal 2022 will get a statistical push from a low base, and benefit from higher global growth. Efforts to control Covid-19 cases in India, coupled with an attitude of learning to live with the virus, augurs well for growth prospects. Vaccine rollout and herd immunity should further broaden recovery.
• The National Statistics Office revised fiscal 2021 GDP growth to -8% in its second advance estimate compared with -7.7%
estimated earlier.
Consumer price index
(CPI) inflation • We expect CPI inflation to average 5% in fiscal 2022 com- pared with 6.4% in fiscal 2021.
• Softer food inflation is expected to offset pressures from rising fuel inflation and sticky core inflation.
• CPI inflation fell for the third consecutive month, declining to 4.1% in January from 4.6% in the previous month.
RBI’s monetary policy • The RBI is expected to retain its accommodative stance going into fiscal 2022. However, maintaining high levels of liquidity similar to the previous year may not be possible, given concerns over an unsustainable rise in asset prices, and pressures on CPI inflation.
• The MPC kept policy rates unchanged in February, with the repo rate at 4%, reverse repo at 3.35%, and the marginal standing facility at 4.25%. It also maintained its forward guidance of maintaining an accommodative stance “as long as necessary – at least during the current financial year and into the next financial year” to support growth.
Fiscal health • The Centre’s fiscal deficit is budgeted at 6.8% of GDP in fiscal 2022 compared with 9.5% of GDP (revised estimate) for fiscal 2021.
• The Centre’s gross market borrowing will remain higher than pre-pandemic levels at Rs 12.06 lakh crore in fiscal 2022, compared with Rs 12.8 lakh crore in fiscal 2021 and Rs 7.1 lakh crore in fiscal 2020.
Crude oil prices • CRISIL Research expects crude prices to range $55-60 per barrel in 2021 (calendar year), compared with an average of
$42.3 per barrel in 2020.
• Brent crude oil prices surged to $62 per barrel average in February, 13.6% higher on-month and 12.7% higher on-year.
Factors influencing outlook
1Second advance estimate by National Statistics Office
Research
Economic parameter Our view Impact on
yields Current account
balance • We expect the current-account balance to average a deficit of 1.2% of GDP in fiscal 2022, compared with an estimated surplus of 1.8% of GDP in fiscal 2021.
• While export recovery has been uneven and depends on the Covid-19 trajectory in major economies, imports are expected to see a consistent recovery on account of continued improvement in domestic demand. Rising crude oil prices will also push up import growth.
• Current account surplus averaged 3.1% of GDP in the first half of fiscal 2021. However, goods trade deficit has widened in the second half with a faster rise in imports relative to exports.
US Federal Reserve’s
stance • S&P Global believes that the additional fiscal stimulus proposed for this year will put some pressure on inflation.
That said, Fed will be cautious on tightening its policy, and is not expected to raise rates this year.
• The Fed kept its federal funds rate at 0%-0.25%, and the bond-buying programme unchanged in its January meeting.
Liquidity indicators
- Demand & Supply
Supply side
• The government’s fiscal deficit widened after it announced stimulus measures to kick start the economy that had come to a halt during the lockdown. To bridge this gap, it will borrow an additional Rs 80,000 crore till March.
• Gross market borrowing for fiscal 2022 is pegged at Rs 12.06 trillion and net market borrowing at Rs 9.25 trillion
Demand side
• RBI to continue carrying out OMOs to offset the excess supply of government securities
- Call rates/LAF (liquidity adjustment facility)
• Interbank call money rates remained below the RBI’s repo rate of 4% in February, as the liquidity position of banks was comfortable. To provide banks with opportunities to park surplus cash, the central bank conducted a 14-day variable rate reverse repo auction on February 12 for a notified Rs 2 lakh crore, wherein it received offers totalling Rs 2.97 lakh crore. Meanwhile, the RBI decided to restore the cash reserve ratio (CRR) in two phases in a non-disruptive manner - 3.5% (effective from March 27, 2021), and 4.0% (effective from May 22, 2021).
Research
Yields on corporate bonds (10-year PSU FI) hardened 61 bps to 7.22% from 6.61% in January, while those on SDLs rose 54bps to 7.10% from 6.56%, following the rise in G-sec yields. The fiscal consolidation roadmap got extended and the move to narrow the fiscal deficit to 4.5% only by fiscal 2026 was the biggest dampener that led to a rise in G-sec yields. Lack of support in the form of OMOs and a huge borrowing programme also add to the upward pressure on yields.
Bond yields remained volatile in February, swinging between 5.95%
and 6.22%. Higher-than-expected market borrowing for the current and the next fiscals, devolvement of auctions, and rising US Treasury yields, and higher crude oil prices led the rise in yields. Some cushion was provided by the announcement of special OMOs and assurance from the RBI governor, but lack of a clear guidance on the OMO calendar announcement kept the markets edgy. As a result, yields closed the month at 6.22%, 32 bps higher than the previous-month close.
Source: CRISIL Research
Source: CRISIL Research
February at a glance
10-year G-sec benchmark yield
10-year benchmark yields
Higher-than- anticipated borrowing for current and next fiscal
Lower-than- expected OMO cut-offs boosted market sentiment
Devolvement of 10-year and 5-year papers
Rising US Treasury yields and partial devolvement of 15- year and 3-year papers
Lower-than- expected cut-offs in special G-sec auctions.
Source: CRISIL Research
Spreads widened for SDLs and corporate bonds
The spread of 10-year benchmark SDL over the benchmark G-sec widened 23 bps over the past month to 89 bps, while that for AAA-rated public sector corporate bonds widened 30 bps to 100 bps.
Spreads over G-sec (%)
0.00%
0.20%
0.40%
0.60%
0.80%
1.00%
1.20%
1.40%
SDL spreads Corporate bond spreads 5.85%
5.90%
5.95%
6.00%
6.05%
6.10%
6.15%
6.20%
6.25%
6.30%
5.00%
5.50%
6.00%
6.50%
7.00%
7.50%
8.00%
8.50%
9.00%
9.50%
10.00%
10-year G-Sec 10-year SDL 10-year corporate bonds
Research
Systemic liquidity stays in surplus
Source: CRISIL Research
* Net liquidity is calculated as repo + marginal standing facility (MSF) + standing liquidity facility (SLF) - reverse repo
Average systemic liquidity for February was
~Rs 6.03 trillion, higher than previous month average of ~ Rs 5.64 trillion. The massive liquidity surplus in the banking system has been supporting sovereign yields despite the huge increase in the supply of government securities in the current financial year.
Two variable reverse repo operations have been undertaken by RBI aggregating Rs 2 trillion each on February 12 & 26th with a view restore normal liquidity operations in a phased manner.
Source: CRISIL Research
Average trading volume
Trading volume in G-secs increased marginally at ~6%, significantly for SDLs at
~47% and for corporate bonds at ~27% on- month in February. Money-market trading volume decreased 38% for certificates of deposit (CDs), 15% for commercial papers (CPs) and 5 % for T-bills compared with the previous month. The G-sec volume in February remained below the 12-month average.
Net liquidity injected [injection (+)/absorption (-)]* (Rs Crore) Monthly average trading volume (Rs crore)
Spreads compression in lower rated NBFC and HFC
Spreads over G-sec*
Rating
category Date PSUs/
corporates NBFCs Housing finance companies
AAA 31-Jan-21 0.21% 0.84% 0.66%
28-Feb-21 0.29% 0.81% 0.66%
AA+ 31-Jan-21 1.44% 2.91% 1.80%
28-Feb-21 1.43% 2.63% 1.72%
AA 31-Jan-21 1.87% 5.75% 4.93%
28-Feb-21 1.80% 5.45% 4.18%
0 5000 10000 15000 20000 25000 30000 35000 40000
0 2000 4000 6000 8000 10000 12000
Dec-20 Jan-21 Feb-21 12 Month- Avg
SDL TBILL CD
CP Corporate Bond G-Sec (R.H.S.)
-800000 -700000 -600000 -500000 -400000 -300000 -200000 -100000 0
Net liquidity injected [injection (+)/absorption (-)] *
Research
Net investments by FPIs
Total FPI inflow in February was Rs 24,013 crore. Global liquidity and vaccine optimism and resultant economic recovery prospects prompted inflows into the Indian equities.
FPI inflows into equities were Rs 25,787 crore, while the debt segment witnessed a net outflow of Rs 6,488 crore compared with a net outflow of Rs 2,518 crore in January.
Major outflows in debt were seen in sover- eign securities, as per the data available on NSDL as of mid-February.
Source: CRISIL Research
FPI net investment in debt (Rs crore)
The average spread between the bench- mark 10-year G-sec yield and Tri-Party Repo (TREPS) was ~316 bps in February (against ~274 bps in January), which is wider than the 12-month average spread of
~291 bps.
Term premium between benchmark 10-year G-sec and TREPS widened
Source: CRISIL Research
The 10-year US Treasury yield closed the month at 1.44%, 33 bps above the January close of 1.11%. Proposed additional fiscal stimulus in the US and vaccine roll out led economic rebound would fuel consumption and thereby inflation. Inflationary concerns led to a spike in US bond yields. Investors fear the central bank will soon begin to tighten rates and remove liquidity support measures to curb a potential rise in inflation, as growth takes hold. The monthly average spread between the domestic 10-year benchmark G-sec and 10-year US Treasury yields remained steady at 4.82%, as in the previous month.
Spread over the US Treasuries remains constant
Source: CRISIL Research
Benchmark yields – 10-year G-sec (India) versus 10-year US Treasury
Term premium (10-year G-sec benchmark and TREPS)
0.00%
1.00%
2.00%
3.00%
4.00%
5.00%
6.00%
7.00%
8.00%
9.00%
10.00%
INR 10-year G-Sec 10-year US Treasury
-1.00%
0.00%
1.00%
2.00%
3.00%
4.00%
5.00%
6.00%
Term Premium (Treps)
(5,099)
1,111 8,319 9,433 11,672 (990)
3,670
(2,358) (4,616)
(11,648) 2,097
(60,376) (12,552)
(22,935) (1,545)
(2,476) (3,310)
3,958 1,641
(1,806) 4,079
(2,518) (6,488)
-70000 -60000 -50000 -40000 -30000 -20000 -10000 0 10000 20000
Apr-19 May-19 Jun-19 Jul-19 Aug-19 Sep-19 Oct-19 Nov-19 Dec-19 Jan-20 Feb-20 Mar-20 Apr-20 May-20 Jun-20 Jul-20 Aug-20 Sep-20 Oct-20 Nov-20 Dec-20 Jan-21 Feb-21
Research
Key downgrades and upgrades in the past one month
Downgrades
Issuer name Old rating New rating
THDC India Ltd. IND AA+ IND AA
Dredging Corporation of India Ltd. CARE A+ CARE A
SP Imperial Star Pvt. Ltd. CARE A- CARE BBB+
Upgrades
Issuer name Old rating New rating
Muthoot Finance Ltd. CRISIL AA CRISIL AA+
Muthoot Homefin (India) Ltd. CRISIL AA CRISIL AA+
Bajaj Electricals Ltd. [ICRA]A- [ICRA]A
Starlite Lighting Ltd. [ICRA]A-(CE) [ICRA]A(CE)
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