Continuing concerns regarding a potential fiscal slippage at the Union Government level and a moderation in FII inflows into debt will pose an upward pressure on bond yields in the second half of the current financial year, according to a report.
Rating agency ICRA, however, said that with the systemic liquidity surplus expected to moderate in the second half of the current fiscal, open market operations (OMOs) through sales of Government securities (G-sec) are likely to be pared by the RBI, which would prevent the 10-year G-sec yields from rising above the 7.0-7.1% range. “Despite the planned increase in FII limits in corporate bonds and G-secs, the headroom for additional FII investment in debt securities is limited,” said Karthik Srinivasan, group head, financial sector rating, ICRA. FII debt inflows would be limited to about $8-10 billion in the second half of the current fiscal, lower than the the $15.68 billion that arrived in the first half, “which may exert some upward pressure on bond yields,” he said.
There is low likelihood that the potential fiscal stimulus or accounting for bank recapitalisation bonds would trigger a meaningful fiscal slippage in financial year 2017-18, the report said.
Nevertheless, it said, concerns regarding a slippage relative to the government’s fiscal deficit target of 3.2% of GDP for the current fiscal continue to linger, on account of lower-than-budgeted revenues. This stems from uncertainty around indirect taxes post-GST, revenues from telecom and disinvestment flows, as well as the lower surplus transferred by the RBI.
“Such fiscal concerns are likely to continue to keep bond yields at elevated levels,” a release said.
Credit offtake hopes
The RBI conducted OMO sales of ₹600 billion in the second quarter of the current fiscal, which contributed towards a decline in the liquidity surplus and also pushed up bond yields. In October 2017, the RBI announced further OMOs of ₹200 billion. The incremental bank credit offtake in the remainder of this fiscal is likely to be higher than incremental growth in bank deposits.
After netting off the CRR as well as the SLR requirements, ICRA estimated that “additional credit offtake would exceed deposits by a sharp margin.” resulting in a moderation in the systemic liquidity surplus during second half. In line with this, further OMO sales by the RBI is expected to be limited, which may help counter the uptrend in bond yields.
The 10-year benchmark G-Sec yield rose sharply to 6.88% as on October 31 from the low of 6.41% as on July 24, driven by factors such as increasing likelihood of a rate increase by the U.S. Fed in December, a slowing GDP growth rate in India — that has led to speculation regarding a fiscal stimulus package — and a potential slippage relative to the Centre’s fiscal deficit target for FY18.
The increase in oil prices since second quarter of current fiscal, may widen the current account deficit and weaken the Rupee. Moreover, the announcement of Public Sector Banks recapitalisation programme, also added to hardening of yields.
