Bond yields soft; inflation worry weighs

Indian federal bond yields were steady to lower on Monday as the central bank’s cash infusing steps on Thursday kept the market mood positive but traders were concerned that its hawkish take on inflation meant policy tightening sooner than later.

India’s central bank left interest rates on hold on Thursday and unveiled steps to address persistently tight liquidity, but warned inflation was still well above its comfort level, raising the prospect that it will resume monetary tightening in January.

The central bank cut the statutory liquidity ratio — the minimum level of deposits banks must hold in government approved securities — to 24 percent from 25 percent, and unveiled 480 billion rupees ($10.5 billion) worth of bond purchases over the next month.

At 10 a.m. (0430 GMT), The yield of the most traded 8.08 percent, 2022 bond was at 8.01 percent, down from 8.02 percent at close on Thursday. It had fallen to 8 percent in early deals.

The yield of the benchmark 10-year 7.80 percent bond was steady at 7.95 percent. The bond market was shut on Friday for a local holiday. Volumes were a moderate 25.95 billion rupees ($570 million) on the central bank’s trading platform.

“The market is starting to get worried about inflation. I feel the yield curve will steepen,” said Ritesh Jain, head of fixed income, Canara Robeco Mutual Fund .

“Shorter end yields up to 2017 might not fall much or remain there and 2020 upwards will start correcting,” he added.

The benchmark 10-year bond yield, which had risen to a 26-month high of 8.22 percent on Dec. 6 because of liquidity concerns fell as much as 30 basis points on Thursday after the central bank announced its cash support steps.

Some dealers said they waited for the details of bonds the central bank plans to buy as part of its bond purchase programme as well as this week’s 110 billion rupees bond sale.

Indian bonds also found support in Friday’s rally in U.S. Treasuries.

Local dealers said, however, bond players were cautious as clearing house data showed state-run banks were major sellers of bonds on Thursday with net sales of 40.38 billion rupees.

“There is still more room for yields to fall because the central bank will buy bonds for the next one month, but there are concerns that the market will have to go through a wall of selling by state-run banks before that,” said a senior trader with a primary dealer.

The benchmark five-year overnight indexed swap was at 7.37 percent, down 2 basis points from Thursday.

The one-year overnight indexed swap was steady at 6.80 percent.

Source: http://economictimes.indiatimes.com/markets/bonds/Bond-yields-soft-inflation-worry-weighs/articleshow/7131646.cms

 

Arbitrage funds outdo benchmarks in Nov

Volatile market helps boost performance.

Owing to the volatility in the market, November saw arbitrage funds doing much better than the benchmark indices.

While both the indices saw negative returns, these funds provided returns in the range of 0.5-1.2 per cent.

“Arbitrage opportunities were very good last month as the market was very volatile. These funds give risk-free returns even though they invest in equity, as the positions are already held,” said Mr Raju Singh, mutual fund analyst with SBI Cap Securities. “Around five months ago, there were few such opportunities for these funds to do well. At one point their returns were even lower than that of liquid funds.”

Arbitrage funds perform best in a volatile market. The objective of an arbitrage fund is to provide risk-free returns. Fund managers can hedge their risks by going long in the cash market and short in the futures market.

High returns

November saw a lot of volatility in the market with the Sensex falling by 834 points (-4.05 per cent) and the S&P CNX NIifty by 255 points (-4.17 per cent). The arbitrage funds saw higher returns.

Birla Sun Life Enhanced Arbitrage Fund gave the highest returns at 1.22 per cent, SBI Arbitrage Opportunities Fund was second at 0.98 per cent, followed by Kotak Euity Arbitrage Fund at 0.96 per cent.

Also, these funds do not have very high AUMs. The assets are usually around Rs 100 crore.

“This gives them an advantage as they can then consolidate their portfolios. Having lower AUMs means they can consolidate and diversify their investments,” said Mr Hiren Dhakan, Associate Fund Manager, Bonanza Portfolio.

However, analysts said these funds can put up a better performance. “An arbitrage fund can generally provide 7-8 per cent in annualised returns. Therefore, these funds can actually give higher returns than what they are showing right now since the market is moving in a range,” said Mr Dhakan.

“Arbitrage funds are the safest options as they always hold hedge positions and toggle between cash and the futures options. In that sense, their risk profile is lower. At no point will these funds perform badly because of their hedge positions, except when the markets are either steadily moving up or moving down,” he added.

Source: http://www.thehindubusinessline.com/2010/12/02/stories/2010120251191000.htm

 

Liquid fund NAV lock possible only after MFs get money

Capital market regulator Sebi said that investors in liquid funds would no longer get the net asset value NAV of the day before the application date, if the mutual fund doesn’t get the application and money before 2:00 pm. Sebi, in a circular on Friday, said liquid-fund investors would only get the NAV of the day, just before the day on which the mutual fund has received the money irrespective of the time of submitting the application.

“It is observed that mutual funds are deploying funds without receiving clear funds in the scheme account. As a matter of good practice and to avoid systemic risk, it has been decided to modify certain provisions ,” said Sebi.

The regulator said that investors would be allotted units in liquid schemes only if an application is submitted before 2:00 pm, entire investment fund is credited to the bank account before the cut-off time and the money is available without any credit facility. The same conditions would be applicable for allotment of units during switching to other schemes such as liquid plus or other debt schemes.

Investors in liquid schemes, mainly companies, have widely followed a practice , where they submitted the application before the cutoff time and simultaneously directed the fund house to switch to liquid plus scheme. This helps investors get the previous day’s NAV of the liquid scheme and get returns of the liquid plus scheme of the same day.

Mutual fund officials said that the Sebi move is likely to affect flows into liquid schemes, where companies park their idle money. A top official of a bank-promoted mutual fund, on condition of anonymity, said, “Let’s assume that the investor has made the RTGS payment order at 10:00 am in the morning, but the mutual fund gets it only after the cutoff time of 2:00 pm, the investor will not get the previous day’s NAV. All the more, his money will lie idle with us for a day.” Real-Time Gross Settlement (RTGS) is the fastest way to transfer money between banks.

A fixed income fund manager of another bank-promoted mutual fund said, “Now, there will be bigger fights between fund houses and companies (investors) over the timing. Companies and high net worth investors are never known to transfer money on time and often blame us for the delay.”

According to Dhirendra Kumar of Value Research , the Sebi move could create a logistical problem. “Banks do not have the necessary infrastructure to deliver the funds by 2.00 pm. The Sebi move will basically impair the flexibility to move their money across schemes during the day,” said Mr Kumar. Mutual funds are already reeling under the impact of a Sebi’s move in August 2009 to ban them from charging investors, in their equity schemes, an initial fee to pay distributors. The step has resulted in distributors selling fewer equity schemes. Sebi, in the circular on Friday, also said that interval plans would mandatorily be listed and investors could redeem only during the specified transaction period — the period during which both subscription and redemption may be made to and from the scheme.

“It has been noticed that certain scheme information documents provide that the subscription to the scheme can be made during a specific period (known as specified transaction period) and the repurchase of units is permitted on all business days subject to applicable loads (except for redemption during specified transaction period when no load is charged),” the circular said.

“As per the current regulation, there is no restriction on tenure of securities in which interval scheme can invest. This read with daily redemption option may result in asset liability mismatch,” it said.

Source: http://economictimes.indiatimes.com/markets/regulation/Liquid-fund-NAV-lock-possible-only-after-MFs-get-money/articleshow/6998829.cms

 

RBI raises key rates; FM says may impact short-term growth

Hardening its stance on inflation, RBI on Tuesday raised some key policy rates prompting Finance Minister Pranab Mukherjee to caution that it could have some short-term negative impact on growth.

The apex bank increased its short-term lending (repo) and borrowing (reverse repo) rates by 25 basis points to 6.25% and 5.25% respectively, but the commercial banks said they would not increase their lending rates immediately.

“This tightening may have some negative impact on the growth rate, but I expect such an effect to be only a short one. In the medium to long term, the changes announced by the RBI today should actually help the Indian economy do better in terms of growth,“ Mukherjee said.

This was the sixth time this year that the Reserve Bank of India (RBI) has raised repo and reverse repo rates.

The apex bank, however, hoped that going forward it may not have to up the rates further.

India Inc expressed apprehensions that the RBI decision would make loans expensive and may dampen industrial growth.

“This (RBI move) in turn would adversely impact the interest sensitive sectors like consumer durables and auto, which have led the growth hitherto as also on the housing demand,“ Ficci Secretary General Amit Mitra, said.

RBI has pegged the growth rate for the current fiscal at 8.5%, up from 7.4% in the previous fiscal.

The mid-year policy initiatives, according to Planning Commission Deputy Chairman Montek Singh Ahluwalia, was in sync with the actions of other central banks.

Although banks said they would refrain from immediately hiking rates, they may not be able to hold on to the existing rate-level for long as demand for credit increases and depositors put pressure on them to raise interest rates.

“So, whether it (hike by RBI) will raise pressure on the system Eventually, it will. Whether there would be immediate reaction Not likely,“ said, SBI Chairman O P Bhatt.

The hike in the key interest rates according to RBI are aimed at containing inflation, which is above the `comfort level.`

Inflation was 8.62% in September and food inflation was 13.75% in mid-October. RBI has pegged inflation at 5.5% by the fiscal- end.

“Today is not such an easy time. The signals from the economy have been mixed. Industrial growth showed a slight slowing down in August. Inflation, while less than what it was some months ago, is still not in a zone where we can sit back,“ Mukherjee added.

RBI, however, refrained from raising the cash reserve ratio (CRR), which is the proportion of deposits that the banks keep with the central bank, in view of tight liquidity situation.

“I am glad that RBI has risen to the challenge and used a very careful combination of policies to complement what the government is doing to steer our economy to grow better and harness inflation,“ Mukherjee said.

Stock markets reacted mildly to the hike in policy rates by RBI with the benchmark Sensex ending the day flat.

“RBI`s move to hike the key policy rates are in line with the Street`s expectations and equity markets have not reacted much to the announcement since it has already be factored in,“ Axis Mutual Fund CEO and MD Rajiv Anand, said.

Expressing concern at excessive borrowing for homes, the Reserve Bank also tightened norms for housing loans as well as controversial teaser loans.

The Reserve Bank also cautioned against rising stock and gold prices.

It said huge capital inflows in emerging economies are resulting in appreciation of local currencies and asset prices.

The central bank said it may intervene if Forex flows are lumpy and volatile.

Source: http://www.myiris.com/newsCentre/storyShow.php?fileR=20101102213728200&dir=2010/11/02&secID=livenews

 

RBI calms jittery market, as call rates top 12%

Second LAF window opened, SLR norm temporarily relaxed

Interbank call money rates surged to more than 12 per cent this morning, even after banks on Friday net borrowed Rs 1,17,660 crore from the Reserve Bank of India (RBI) repo window — the highest in two years. Around noon, RBI announced measures to cool the market.

The central bank opened a second liquidity adjustment facility (LAF) window, which it said would be offered on Monday, too. The facility will also be available on Saturday, when it is normally closed.

Simultaneously, RBI temporarily eased the statutory liquidity ratio (SLR) requirement for banks. They will not be penalised if their minimum SLR holding dips to 24 per cent of deposits if they pledge government securities to borrow through Saturday’s repo auction. The leeway is ad hoc and applicable only for the Saturday repo.

Banks have to invest up to 25 per cent of their net demand and time liabilities in government securities to maintain SLR. Any shortfall typically invites penal action from RBI.

As a result of the central bank’s actions, call money rates closed at 7.15 per cent. This was still its highest level this financial year, according to Bloomberg data. In the second LAF auction, banks borrowed only Rs 350 crore, as the window opened too late, say bankers. RBI described Friday’s shortage as “frictional liquidity pressure”.

“The regulator should not wait until panic spreads, which was the situation in the morning,’’ said a dealer.

The liquidity shortage this week averaged Rs 90,000 crore, mainly because of the Coal India initial public offering, which mopped up a record Rs 15,500 crore. Pressure rose as the IPO received 15 times the bid amount. Money from refunds is expected to flow back next week, providing some relief.

Given the scarcity of funds in the banking system, some bankers argue that RBI should leave rates untouched. Many money market dealers and bankers expect a 25-basis point increase in key policy rates on Tuesday, as RBI continues its action against inflation.

Mutual funds are feeling the pressure of redemption by corporates, banks and financial institutions. Rs Rs Banks have sucked out money from liquid funds to a large extent this month. With several IPOs in the pipeline and due to the central bank’s intervention, which is squeezing liquidity, banks are no longer parking money with mutual funds,” said the chief executive officer of a mid-sized fund house.

“One of the factors precipitating the problem is the lack of government spending, despite maintaining huge balances with RBI,” explained a senior State Bank of India official. Government balances with RBI stood at Rs 25,662 crore on October 22.

However, overall liquidity is unlikely to improve in a hurry, as several companies have lined up fund-raising plans in the busy season. There will be additional pressure from year-end investment liquidation by foreign institutional investors, say fund managers. Adding to the strain on liquidity will be the third tranche of advance tax, which falls due in mid-December.

Moreover, the government has lined up several big-ticket public issuances over the next few months, including those of Shipping Corporation of India, Hindustan Copper, Manganese Ore India and Power Grid Corporation. In January, Indian Oil Corporation is expected to come to the market with an offering of around Rs 19,000 crore — the largest to date. The private sector also plans to tap the market with mid-sized and large issues.

“The present liquidity situation may improve, but it will take time. I don’t expect any immediate rate hike by RBI, as it will aggravate the situation. There is no real credit uptake and not much is expected in the third quarter, except from the infrastructure sector,” said Bhaskar Sen, chairman & managing director, United Bank of India.

However, the central bank may still be compelled to go for another rate hike, say some bankers. This is because headline inflation has stayed much above RBI’s tolerance level. Food inflation is now becoming structural in nature.

“The market has factored in a 25-basis point hike in both policy rates. As a result, short-term rates have gone up. I don’t think RBI will react to the present liquidity tightness, as it may be temporary, and will probably go ahead with a rate hike,” said Jahangir Aziz, India chief economist at JP Morgan.

Source: http://www.business-standard.com/india/news/rbi-calms-jittery-market-as-call-rates-top-12/413200/

 

‘Inflation may surprise on the upside’

Monthly Income Plans and balanced funds have demonstrated that they have beaten inflation over a longer period of investments and should be actively considered by investors. – AMANDEEP CHOPRA, HEAD-FIXED INCOME, UTI AMC

The debt market is hotting up, with short-term debt funds doing well, fixed maturity plans delivering good yields and rates rising. Business Line put a few questions to Mr Amandeep Chopra, Head-Fixed Income, UTI AMC on the attractive options for investors today.

Excerpts from the interview:

What is your outlook on interest rates? Given that RBI has stated that ‘reversal of monetary stimulus’ is almost done, how much more do you expect rates to rise?

We expect the interest rates to remain largely range bound. With inflation being on the forefront again, the RBI may go ahead with two more rate hikes of 25 bps each. The market appears to have already factored in at least one more rate hike and may not react to the actual hike unless the central bank continues to be hawkish in its stance.

With the equity market touching new highs and the debt funds continuing to invest in shorter-term instruments, which reduces effective yields, where should debt investors focus today?

While the short-term debt funds will remain an anchor in an uncertain time, investors can look at close-ended funds such as fixed tenure plans and fixed maturity plans and Monthly Income Plans with a stable dividend distribution history like the UTI Monthly Income Scheme.

Given the outlook that we are nearing a peak in interest rates, it would be a good strategy to allocate a small portion of overall investment portfolio, say 5 per cent, to income funds such as UTI Bond Fund.

What is your outlook on inflation? What are the safe investment options for those looking to beat inflation over the long term?

Inflation may surprise on the upside in the near months as it has remained pretty sticky based on the recent data releases. However, we expect it to moderate from January 2011 onwards, yet remain above the RBI’s target levels.

Monthly Income Plans and balanced funds have demonstrated that they have beaten inflation over a longer period of investments and should be actively considered by investors.

Recent months have seen a slowdown in bank deposit growth. Are retail investors allocating the money to other debt investments?

The real rate of return on bank deposits is low due to high inflation at present, and it appears that there has been no significant credit growth yet that can compel banks to hike deposit rates, hence retail investors are chasing higher yield and riskier asset classes like equity, real estate and commodities.

Unless the credit growth on a year to date basis picks up substantially the deposit rates may maintain status-quo.

Over the last few months yields of longer-dated securities have somewhat stabilised. Are mutual funds moving to long dated instruments or will they stay with short-term debt?

Based on our view, we have increased duration of our long term funds – UTI Bond Fund and UTI Gilt Advantage.

FMPs have made a strong comeback in recent months with MFs raising a large sum through these funds. Can 3-month to 1 year FMPs offer better yields than bank deposits today on a pre-tax basis?

Yes, based on prevailing short-term rates – 3-month at 7 per cent and 1 year at 8 per cent, FMPs can offer better returns than deposits.

Quite a few companies are opening up FD programmes again. How should an investor choose between fixed deposits and debt mutual funds?

The factors to consider are diversification of the invested portfolio which a single company’s fixed deposit cannot offer. Liquidity too may be non-existent in a company FD.

With introduction of infrastructure bonds and renewed interest in the debt market, will there be improvement in corporate debt trading volumes?

Yes, we have already seen improvement in debt market volumes for year-to-date FY2010 with more issuers and larger issues hitting the markets. With no surprises on enhanced supply of G-Secs, we can see more activity in corporate bond markets in the second half.

Source: http://www.thehindubusinessline.com/iw/2010/10/18/stories/2010101850521300.htm

 

Bond traders see sell-off if borrowing not cut

Indian bond traders are bracing for a sell-off if the government sticks to its planned 1.7-trillion-rupee ($37.2 billion) borrowing plan for the second half despite a sharp rise in federal revenues. Six out of 10 market participants in a Reuters survey expected no change in the borrowing when the October-March schedule is announced on Thursday, traders said.

Four participants saw a possibility of 100 billion to 150 billion rupees reduction in the borrowing. “The market will react negatively if there is no cut in borrowing and the 10-year yield could rise by about 5 basis points and the 5-year OIS rate could rise by 2-3 basis points,” said Anindya Das Gupta, head of treasury at Barclays Capital.

The government had planned to borrow a gross 4.57 trillion rupees in 2010/11. Of the budgeted 2.87 trillion rupees to be raised in April-September, it has borrowed 2.73 trillion so far. Government revenues have been boosted by an auction of 3G and wireless broadband spectrum that raised 1.06 trillion rupees, about three times more than expected, thanks to aggressive bidding by firms in the world’s fastest growing mobile market.

Tax receipts have also been buoyant on the back of a rebounding economy. April-August net direct tax receipts rose 13.9 percent to 1 trillion rupees from a year ago. The benchmark 10-year bond yield could rise to 7.98 percent if the government does not reduce the borrowing, traders said.

The bond was trading at 7.94 percent by 0626 GMT, steady from its previous close. Traders said a token reduction in borrowing was unlikely to spur a rally in bonds, with some hoping the government may await divestment proceeds from state companies in the coming quarter before deciding on a cut. State-owned Coal India Ltd, the world’s largest coal miner, is set to launch an initial public offer in October to raise up to $3 billion, with the government selling a 10 percent holding.

“Divestment proceeds remain a surprise factor and they (the government) could look to mop up more than budgeted,” said Dwijendra Srivastava, head of fixed income at Sundaram BNP Paribas Mutual Fund. “They may not look to borrow much in the months of Feb-March.” In early August, the government had approved an additional expenditure worth about 550 billion rupees, which could absorb revenues.

Source: http://economictimes.indiatimes.com/Bonds/articleshow/6612101.cms

 

Presently, short term funds are more suitable: Mahhendra Jajoo

Mahhendra Jajoo, Executive Director & CIO – Fixed Income, Pramerica AMC in an exclusive interview with Harsha Jethmalani of Myiris.com spoke about their newly launched fund and products in pipeline, his views on the FII inflows in the Indian markets, etc.

Mahhendra Jajoo has over 19 years of experience in financial services and capital markets. Prior to joining Pramerica AMC he was working with Tata Asset Management as Head – Fixed Income and Structured Products managing Fixed Income investment/portfolio from June 2008 to Dec.2009. Mahhendra Jajoo has completed his B.Com, ACA, ACS, CFA ( from CFA Institute, USA).

>What is your investment philosophy for debt schemes? Could you throw some light on the structure of your research team?

Our investment philosophy focuses on constructing a diversified portfolio of highly rated instruments with the objective of generating competitive returns within the scheme investment objectives and constraints.

>Pramerica Liquid Fund collected Rs 6.65 billion; what kind of response are you expecting for recently launched Ultra Short-Term Bond Fund? How are you going to target potential investors for the same?

We have seen our AUM increase over the last month as more and more investors consider Pramerica Liquid Fund to meet their investment needs. With further increase in interest rates by the RBI, debt is becoming more attractive. Pramerica Ultra Short Term Fund offers better tax efficiency to investors therefore, we expect many new investors to invest in this fund.

>Can we expect more new product and innovative products from your AMC this year?

Pramerica Mutual Fund aspires to provide innovative products that will help the investors to create wealth. We will launch new as well as innovative products from time to time reaching to retail investors and bringing to them solutions rather than just products. We will also help our investors to bridge the gap between their aspirations and their current financial positions.

We are already managing the Pramerica Liquid Fund and we recently launched our Ultra Short Term Bond on the Sep. 16, 2010. Two other products are lined to be launched in October, although the exact dates have yet to be finalized.

>What is outlook for Rupee, home loans and deposit rates after RBI has raised benchmark interest rates?

Given the strength of Indian economy and continued inflow of foreign investors, we expect rupee to trade with a strengthening bias. Home loan and deposit rates may go up a bit more given the RBI`s current stance of tightening rates.

In the current market scenario, what investment strategy an investor can follow while investing in different kinds of debt/income based funds? If an investor only prefers to invest in debt funds what can be his right portfolio mix.

Presently, short term funds are more suitable as interest rates are still going up and liquidity is tight. Once a clear trend for lower inflation emerges, longer tenor funds may become attractive.

>Where do you see the yields on g-sec heading in the short term?

Given the offsetting factors of likely improved fiscal deficit and higher inflation, we expect g-sec to trade sideways in a narrow range.

>Foreign fund houses have invested over Rs 710 billion (USD 15.6 billion) so far this year and analysts believe that FII investment in stock markets will cross the last year`s record level. What is your take on this?

India is the second fastest growing economy at present. Structural factors will ensure that this trend is maintained in the foreseeable future. India is also, one of the few markets to reach a new high since the fiscal crisis. As global capital searches for high returns, India will remain attractive to FIIs for a long time to come.

Source: http://www.myiris.com/shares/company/ceo/showDetailInt.php?filer=20100923115620707&sec=fm

 

Banks gear up for tighter liquidity in September

Indian banks are likely to face further tightness in cash conditions next month as the second round of advance taxes are paid by companies, but the situation is expected to ease by the end of September on government spending, investors and analysts said.

Banks are already reeling under a cash crunch, following more than 1 trillion rupees of payments towards telecom spectrum, while higher rates amid rising inflation has led to expectations that the central bank may not act to ease it.

Short-term rates, which are driven by liquidity, are already rising on expectation of tightness coming up and are expected to extend their rise till mid-September, traders said. “Rates are already higher pricing in cash tightness and further incremental upside will happen but not big movements,” said Murthy Nagarajan, head-fixed income, Tata Asset Management. The one-year overnight indexed swap rate may rise to 6.35-6.40 percent by end-September from 6.25 percent now, while the three-month treasury bills, which have already risen 53 basis points since July-end, may rise to 6.30-35 percent from 6.27 percent now, he added.

Currently, banks are borrowing around 100 billion rupees from the central bank’s repo window in August which may go up to around 500 billion rupees in September following the advance tax payments. “The liquidity shortfall can go to about 400-500 billion rupees by mid-September, which is a large deficit for the market and that’s why I feel rates are inching up faster,” said Monan Shenoi, head of treasury at Kotak Mahindra Bank in Mumbai. Expectations of a mid-quarter rate increase by the central bank on Sept. 16, is also keeping up the upward pressure on short-term rates, said analysts.

EVERY QUARTER

However, dealers are not overtly concerned as they are aware that central bank intends to keep cash tight and banks can borrow from the repo window to bridge any liquidity mismatch.

“Every quarter whenever advance tax outflows happen you will see the money returning to the banking system with a week to 10 days time and that time you will obviously see banks borrowing from the RBI in the LAF window more often,” said Kumar Rachapudi, a fixed income strategist at Barclays Capital, Singapore. “As long as banks have enough securities to borrow from the RBI from the LAF window, that will determine the amount of credit that can be disbursed to both public sector and to the government,” he added. Mutual funds are also not too worried about the redemption pressure as these are anticipated outflows.

“Mutual funds are already having long term money… (they) anticipated this and have a lot of maturities coming up in September. So from a mutual fund perspective it can be managed,” said K. Ramkumar, head of fixed income at Sundaram BNP Paribas Mutual Fund.

However, the pace of government spending will be the key to ease liquidity crunch given the onset of festive season in October. “The market is now at decent levels and higher rates, the currency in circulation will also return to the system,” Nagarajan of Tata Asset Management said.

Source:http://economictimes.indiatimes.com/news/news-by-industry/banking/finance/banking/Banks-gear-up-for-tighter-liquidity-in-September/articleshow/6421420.cms

 

Strategies focussing on short-term bonds may perform well: Santosh Kamath

Santosh Kamath, Chief Investment Officer, Fixed Income, Franklin Templeton Mutual Fund, shared his outlook on inflation and interest rates and spoke about how investors can navigate the rate cycle.

What is your outlook on the RBI`s benchmark interest rates after the recent hike? How much do you expect rates to rise?

Given the ongoing trends in inflation and the strong GDP growth momentum, we expect the central bank to continue step-by-step increments in interest rates. However, inflation and the global conditions will be key drivers, and this dynamic environment has been acknowledged by the RBI in its recent policy statements and the introduction of the new intermediate policy reviews.

It is difficult to quantify the hikes or the extent of the rate hike cycle, as the central bank tries to strike a balance between maintaining growth momentum as well as price stability, while keeping in mind the global factors.

Despite being primarily dependent on domestic drivers, the Indian economy has linkages to the overseas markets due to commodity prices (read imported inflation) and liquidity conditions (read FII/FDI flows and external borrowings).

Inflation has consistently remained above RBI targets. What is your outlook on inflation?

Recent trends in inflation have been driven by demand-side factors, in addition to the existing supply-side constraints that have been pushing food inflation. In a fast-growing economy such as India, inflation will be an ongoing issue due to expansion leading to capacity utilisation and infrastructure bottlenecks.

In that sense, we are going to witness these economic cycles on an ongoing basis, but the supply-side constraints need to be addressed by the government to provide stability.

In the near term, headline inflation may taper down as the base effect turns favourable. Good rainfall and healthy trends in sowing activity could also help bring down food inflation, going forward. However, we need to monitor global oil/ commodity prices, given that India depends on energy imports to a large extent to meet its requirements.

Is the prospect of rate increases factored into current gilt prices? What should be the trigger for investors to consider long-term debt and gilt funds?

The ongoing rate hikes have been largely factored into the 10-year gilt yield levels that have also been impacted by concerns about fiscal deficit. Yields have trended down after rising to 8% plus in April this year. Recent trends on 3G/BWA collections, partial de-regulation of fuel prices and good tax collections augur well for government finances and have cushioned the impact from rate hikes.

Rather than trying to time the interest rate cycle, investors should focus on building a diversified portfolio of fixed income products, in line with their needs and investment horizon.

Typically, investing in actively managed funds with a consistent track record should help investors ride the interest rate cycle in an efficient manner.

Three-month commercial paper (CP) rates have gone from 4.5% to over 7% in the last couple of months. Have short-term rates peaked?

The rise in CP rates reflects the combined impact of liquidity tightening, rise in repo rates and demand-supply factors (increased dependence on CP issuances post transition to base rate).

We expect some easing but the pressure on short-term rates is unlikely to reduce significantly as the RBI has indicated that systemic liquidity levels will be actively managed to ensure effective transmission of monetary policy.

What strategies have made the Templeton Short-Term Income Plan the top performer in its category?

TISTIP is focused on corporate debt, including securitised debt at the short end of the curve. The investment strategy for over a year now has been focused on taking advantage of spread differentials and accrual opportunities in various sectors of corporate debt.

Back in 2008/early 2009, amidst the global turmoil and the liquidity crisis in India, risk aversion resulted in a substantial widening of corporate spreads over gilts. The general view was to stick to government securities, given the the weak environment and fears of credit downgrades.

We felt that the concerns were overdone and were the result of temporary systemic liquidity issues, given that Corporate India`s balance sheets were largely in good shape. Hence, we adopted a combination of active strategies focusing on high accruals, shorter-duration paper and spread plays. We continue to use the same strategies to help our investors take advantage of the opportunities at the short end of the curve.

Have Indian companies managed to de-leverage their balance sheets sufficiently over the past year? How will they be impacted by rate hikes?

At a broad level, Indian corporate balance sheets were in reasonably good shape even before the financial crisis broke out. Many companies with a larger proportion of debt capital have taken advantage of the improved market conditions and raised equity. The rate hikes announced so far have not had a substantial impact on corporate borrowing costs.

Many of the large corporates have also been taking advantage of the increased rate differentials with developed markets by raising funds in overseas markets, and this could help some of them mitigate the impact on cost of capital. At a broad level, Corporate India appears to be well placed, with the exception of a few sectors.

Are sectors that were worst affected by the credit and global crisis, such as realty, retail and so on, out of the woods?

While the overall liquidity situation has improved, the concerns during the crisis period have resulted in a cautious outlook for these sectors.

We have typically been wary of the real estate sector and have avoided exposure even when the general perception was very positive few years back. A large chunk of real estate companies in India have highly leveraged balance sheets and, while retail prices have been on the upswing, the commercial space remains tepid.

What does the above interest rate outlook mean for investors? Which fixed income options should they consider now? Should they lock into current rates for a 2-3 year time frame?

Investors need to prepare for increased borrowing costs as well as higher deposit rates, and also need to focus on `real` returns, given the high inflation levels. Historical data suggestthat during a rising rate environment, typically strategies focusing on shorter maturities and corporate bonds outperform.

From our portfolio, we feel investors should consider such funds as Templeton India Short Term Income Plan and Templeton India Income Opportunities fund, along with ultra short-term funds or floating rate income funds, depending on individual requirements.

Investors need to prepare for increased borrowing costs as well as higher deposit rates, and also need to focus on `real` returns, given the high inflation levels.

Source: http://www.myiris.com/newsCentre/storyShow.php?fileR=20100816113224707&dir=2010/08/16&secID=livenews