The scenario is positive for long duration bond funds, says Mahendra Jajoo of Mirae Asset
Inflation is at 3 per cent, repo rates easing, yields coming down, oil prices stable... everything looks positive for the bond fund investors.
We have a new government in place. The new finance minister will present the budget. There are speculations about GDP, fiscal deficit etc. How do you think money market will behave in the near term?
Money markets and bond market will be guided by the Reserve Bank of India. One thing that markets will be looking at will be the fiscal deficit. Right now, our experience with the current government in the past five years is that there is fiscal responsibility. Last year the revenue collection was low and the main reason for that was GST collection and in this context, the economy slid from 8 per cent to 5.8 per cent. In spite of that, the GST collection has gone up month on month. We have seen that the government didn’t deviate from the fiscal consolidation path even ahead of the election. This is a credible record and it should continue. I think even if the government is a little liberal with the fiscal expansion, the market should be welcoming. Therefore, I believe that budget will mostly be positive for bond markets.
There were a lot of concerns in the market about the government’s borrowing plan for this year. The full budget is also coming out. Are you expecting any changes on that front in the upcoming budget?
I expect that the government will keep the fiscal deficit target unchanged in this budget. There will be no incremental pressure of the supply. RBI is in an accommodative stance at the moment. They have been doing continuous open market operations which I believe will mitigate a lot of concerns. Therefore, I am not too worried about the higher supplies in the budget. I believe that right now the environment is highly supportive of the bond investors.
Oil prices are stable at this point. However, some market participants believe that they will inch up soon. How is that going to impact the market?
We can either choose to look at what is going right or on what can go wrong. Can oil prices go up, can fiscal deficit go up- all of this is possible but it is not happening at the moment. The challenge right now is the shortfall in the monsoon rains. That might have a huge impact on the market. There are risk factors to the market at all points. Right now if you look at the balance of the situation, there is a huge growth concern at a time when global policy rates are easing and we have a low inflation. This low inflation is not dramatically going to go up with a bit of volatility in oil prices, shortfall in monsoon or higher supply of government bonds. So, my point is that the balance of weight is in favour of a supportive monetary policy. Also, because of the unusually benign macro environment, RBI will have a higher tolerance to first and second order volatility.
You had said that there is a room of 100 basis points (bps) rate cut in the market. RBI went for a 25-bps cut in the last policy meet. What are your expectations about further rate cuts?
Our inflation is at 3 per cent right now. There is going to be some reversal in the system because of the food prices being unusually low. Even though RBI is projecting an inflation of 3 per cent for this year, let’s assume that they might revise it to 3.5 per cent. So, at 3.5 per cent inflation and 5.77 per cent repo rate, there is still a gap of 275 bps in terms of real interest rates. The rest of the world is moving to negative real rates except USA. It is expected that the band of the real interest rates has to be brought down. In this scenario, there is a room for cutting the rates by at least 50 bps in this year.
Lastly, what is your advice to the debt mutual fund investors? What should be their strategy?
The RBI is accommodative, yields are coming down. The scenario is positive for long duration bond funds. All duration schemes will be in a good place but longer tenure bonds are expected to do better. Gilt schemes will do well in such conditions. The PSU bond funds look good. However, you should enter the longer duration rally only if you have a suitable risk appetite. If you are a conservative investor, you should stay in the short to medium duration funds.