Any further cut in policy rates would hinge on the progress of the monsoon and the pace of revival of economic activity, says Kumaresh Ramakrishnan, head-fixed income, Deutsche Asset Management India, in an interview with Chirag Madia. Excerpts:
What is your view on interest rates?
At the start of the calendar year, we were expecting a 75-bps cut during 2015, with a potential for a further 25-50-bps cut in 2016. As we stand, the RBI has cut rates by 75 bps in the first six months of the year. Any further rate cut in 2015 would hinge on the progress of the monsoon and the pace of revival of economic activity. Data on corporate performance indicate that margins remain tepid, driven by sluggish demand and low pricing power for corporates. Also, the current capacity utilisation levels offer some spare capacity. This will support some extent of non-inflationary growth as and when economic activity revives. As such, inflation impulses remain subdued at this juncture. Further triggers for rate cuts could come from a combination of a good monsoon and continued subdued economic activity/capex for corporates. We also believe that RBI will keep the system well supplied with liquidity to help transmit rate cuts into softer yields and rates for borrowers. Given the above, we expect yields to move even lower in the coming months.
Benchmark bond yields have been quite volatile in the last few days. Where do you see them settling, going forward?
The market consensus on RBI’s June policy was for a 25-bps cut, but a minority anticipated a more aggressive 50-bps policy rate cut, which did not materialise. The Met department has downgraded the monsoon forecast for the current year from 91% to 88% . The RBI has also raised its own inflation expectation in the policy, albeit marginally from 5.8% to 6% for January 2016. Together, these factors were viewed negatively for rates. Markets also construed the ensuing policy commentary as an end to the rate-cut cycle. All these factors led to a bearish outlook on G-Secs and bonds, which led to a selloff with the yield on the 10-year benchmark rising by 15-20 bps.
Subsequently, however, the markets have stabilised. Overall progress of the monsoon in June has been above estimates, along with good spatial distribution. MSP hikes for the current Kharif season have also been on the lower side, averaging between 2.5% and 3%. Both these factors have quelled fears of rise in food inflation.
Oil prices, after witnessing a sharp rise to about $70 /bbl in May, have started softening again. The US Federal Reserve’s stance at the recently concluded Federal Open Market Committee meeting on June 17 indicates a dovish tilt with no clear outcome or schedule for rate hikes. The situation in Greece appears to be a work-in-progress with hopes hinged on an amicable resolution before the end of the month. On balance, the positives seem to outweigh the negatives at this point. However, in the absence of any near-term triggers, we expect the yields to largely remain range-bound in the near term with a softening bias over the medium term.
Given the situation, what is your investment strategy?
Given the macro outlook and the interest rate view, we have largely retained our slightly overweight stance on the duration portfolios. For example, in our medium-term corporate bond fund, we are running maturity of 6-7 years. In our gilt fund, we are again positioned at the higher end of the duration band and have maturities of 8.5 years. Short-to-medium-term funds are a mix of liquidity and duration. These funds are positioned to benefit from a combination of higher accruals, softening of yields and liquidity, which generates gains on the duration holdings.
As a fund manager, what is your biggest concern today?
Of prime importance to us is the fiscal discipline and prudence that is followed by the government. In the previous year, the government demonstrated its intent by sticking to the rather tight 4.1% fiscal deficit target, without seeking to make any changes. For the current year, the fiscal deficit target has been set marginally lower at 3.9%. Revenue collections in the first two months (especially indirect taxes) have also been satisfactory. While we expect the target to be achieved, this number needs to be watched. The government has so far been proactive in managing inflationary pressures through supply side intervention. Second is a combination of overseas factors. Consistent strengthening of local macro, in our view, will over time cushion any impact arising from adverse developments on any of these factors.
What strategy do you suggest for investors in the current scenario?
Investors who are looking at the interest rate story should continue to go in for longer duration products. However, they should also keep in mind that investing in such products could entail higher volatility, depending on market conditions. Investors who are relatively more risk averse and prefer a predictable return profile from their investments should allocate a larger part of their portfolio to short-and-medium-term products, which typically carry lower volatility.
