The FOMC expectedly kept the benchmark rate unchanged in 5.25% – 5.50% target range in September 2023, with Governor Powell indicating that the FOMC was prepared to raise rates further if required. Furthermore, as a majority of the FOMC members estimating another rate increase this year, the Fed maintained the end 2023 Federal funds rate projection at 5.6% and increased the end 2024 rate estimate to 5.1% from the earlier 4.6% - thus indicating a higher for longer policy rate expectation. Despite the considerable rate increases since early 2022, recent data from the US has been encouraging, and markets seem to be coming around to accept the possibility of the Fed’s ability to engineer a soft landing for the US economy.
Government bond (US Treasury) supply in the US remains significant, and nearly a third of the outstanding US treasuries are likely due for refinancing over the coming ~12 months. Thus, bond supply concerns, and a longer than earlier expected wait for rate cuts has led to higher global bond yields over the past month. Emerging market (EM) bond yields too are expected to bear the brunt of higher yields in advanced economies (AEs).
The People’s Bank of China (PBOC) followed up on its commitment towards a targeted and forceful monetary policy by cutting the forex reserve requirement ratio by 2% and reduced the Reserve Requirement Ratio (RRR) by 0.25%. This was the second RRR cut this year, with the latest reduction expected to release over 500B of yuan liquidity.
The RBI expectedly kept the repo rate and the policy stance unchanged at the October 2023 MPC meeting, but the Central Bank’s decision to consider open market operations (OMOs) in its toolkit via bond sales to actively manage liquidity was an unpleasant surprise to the bond markets. Based on the Central Bank’s baseline projection estimate of Q4: 2024-25 inflation at 4.3%, we continue to anticipate the RBI to have a small window to cut the policy repo rate between the State and the Central elections due in November 2023 and April/May 2024 respectively. Additionally, we expect the policy repo rate to end 2024 around 5.75% - 6.0% range.
Starting June 2024, Indian Government Bonds (GSecs) will be included in the JP Morgan GBI-EM index. This action has the potential to attract around USD25Bn of passive inflows into GSecs, and further attract additional flows from active asset managers. Thus, over the coming year, we expect bond yields to soften and outperform as compared to the past 2 years.
We had largely maintained a low maturity as compared to peers for the better part of last month and had increased duration post confirmation of India’s bond index inclusion. Geopolitics, crude oil prices, global and local bond yield movements are expected to drive the positioning of our duration portfolios. Local bonds are expected to trade in a wider range amidst higher volatility and thereby also offer opportunities across the yield curve. We prefer sovereign exposure over high grade credit.
We feel that actively managed funds are a suitable alternative in the current environment and expect such products to deliver superior risk adjusted returns as compared to non-market linked fixed rate products.