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As with the unexpected CRR cuts last quarter, the RBI has delivered a positive
surprise by slashing the repo rate by 50 bps to 8% as against a market-wide
expectation of a 25 bps cut. With this, we enter the monetary easing phase post the
pause on rate hikes in Dec 2011. The quantum of the rate cut is recognition of growth
slowing down below its post crisis trend and the immediate need to provide a growth
booster rather than a mere signal to indicate rate trajectory. This is also reflected in
lower than expected hawkishness in the commentary – upside risks to inflation have
been highlighted once again, however the sharp slide in core inflation provides a
degree of near term comfort.
We are pleasantly surprised by this smart policy move as this front-ended rate cut
effectively latches on to the favorable, but probably short-lived opportunity
presented by the growth-inflation metrics. We stick to our view of rate cuts
cumulating 75-100 bps in FY13 as inflationary pressures will be closely evaluated
before the next rate action – this might necessitate a status quo on rates at the next
two policy reviews. The next stance of the RBI largely depends on how the growthinflation
dynamic pans out in addition to the crucial monsoon forecast. Equally
important will be the intent and ability of the government in passing through high
crude prices and the follow-on effect on suppressed inflation.
Limited room for further easing
Core inflation is at a 2-year low and is expected to remain contained; however food
inflation is on a rising trend as the favorable base effect reverses. Demand pressures
can intensify on two fronts: (i) Policy actions catalyze economic growth reversion to its
post crisis trend, (ii) Slippages in the budgeted fiscal deficit as a result of inadequate
subsidy control mechanism. In addition, revision in administered fuel prices is
imperative and the RBI does not rule out the risk of a pass-through of the hikes even
though the pricing power is in an abating phase. Consequently, we believe that the RBI
has set the ball rolling to revive growth with this one-shot 50 bps cut, but it will tread
cautiously in placing the next milestone on the FY13 policy roadmap.
Liquidity moving to comfort zone; MSF borrowing limit hiked
CRR has been kept unchanged as liquidity strain has been easing and is now near the
RBI’s comfort zone. Similarly OMO action is off the radar for now and the situation
should remain so unless the condition worsens in Q2 under the steady G-Sec supply.
The borrowing limit under the Marginal Standing Facility (MSF) has been raised from
1% of NDTL to 2%. Even though the MSF window has been seldom accessed of late,
this move will provide additional liquidity comfort in the event of a strain in H2 FY13.
RBI projections for FY13
Assuming a normal monsoon, pickup in industrial activity & improved global outlook,
GDP growth is projected at 7.3% vs CMIE’s forecast of 7.6%. Inflation is expected to be
range-bound with FY13 exit WPI inflation estimated at 6.5%. Coming to the monetary
aggregates, the growth projection for M3 is 15%, credit is at 17% and deposits at 16%.
Market reaction & near-term outlook
The bond markets were pricing in a 25 bps rate cut post the IIP & inflation data
releases. The participants welcomed the positive shock of a 50 bps cut and yields
reacted sharply, correcting by 10-15 bps across tenors. This move should trigger a
correction in money market and short term rates and one can expect debt issuance
activity to pick up. However, given the heavy borrowing program, we project the rally
in Gilts to be short-lived, especially at the tail end which should trade steeper in the
absence of OMO support. As a result, we expect the gain in the 10-Y benchmark to be
capped around the 8.20-8.25% level, with the broad range for the current quarter
being 8.20-8.40%.
OIS markets should continue to trade with a steepening bias, primarily in the 1Y-2Y
segment where negative spreads can approach parity levels in the near to medium
term. The 1-Y swap rate is lower by 8 bps compared to yesterday’s close while the 2-Y
swap has just moved 2 bps lower – already causing a 6 bps steepening. The steepening
in the 2Y-5Y segment might not be as pronounced with relatively less aggressive rate
action priced in for the rest of the year.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
As with the unexpected CRR cuts last quarter, the RBI has delivered a positive
surprise by slashing the repo rate by 50 bps to 8% as against a market-wide
expectation of a 25 bps cut. With this, we enter the monetary easing phase post the
pause on rate hikes in Dec 2011. The quantum of the rate cut is recognition of growth
slowing down below its post crisis trend and the immediate need to provide a growth
booster rather than a mere signal to indicate rate trajectory. This is also reflected in
lower than expected hawkishness in the commentary – upside risks to inflation have
been highlighted once again, however the sharp slide in core inflation provides a
degree of near term comfort.
We are pleasantly surprised by this smart policy move as this front-ended rate cut
effectively latches on to the favorable, but probably short-lived opportunity
presented by the growth-inflation metrics. We stick to our view of rate cuts
cumulating 75-100 bps in FY13 as inflationary pressures will be closely evaluated
before the next rate action – this might necessitate a status quo on rates at the next
two policy reviews. The next stance of the RBI largely depends on how the growthinflation
dynamic pans out in addition to the crucial monsoon forecast. Equally
important will be the intent and ability of the government in passing through high
crude prices and the follow-on effect on suppressed inflation.
Limited room for further easing
Core inflation is at a 2-year low and is expected to remain contained; however food
inflation is on a rising trend as the favorable base effect reverses. Demand pressures
can intensify on two fronts: (i) Policy actions catalyze economic growth reversion to its
post crisis trend, (ii) Slippages in the budgeted fiscal deficit as a result of inadequate
subsidy control mechanism. In addition, revision in administered fuel prices is
imperative and the RBI does not rule out the risk of a pass-through of the hikes even
though the pricing power is in an abating phase. Consequently, we believe that the RBI
has set the ball rolling to revive growth with this one-shot 50 bps cut, but it will tread
cautiously in placing the next milestone on the FY13 policy roadmap.
Liquidity moving to comfort zone; MSF borrowing limit hiked
CRR has been kept unchanged as liquidity strain has been easing and is now near the
RBI’s comfort zone. Similarly OMO action is off the radar for now and the situation
should remain so unless the condition worsens in Q2 under the steady G-Sec supply.
The borrowing limit under the Marginal Standing Facility (MSF) has been raised from
1% of NDTL to 2%. Even though the MSF window has been seldom accessed of late,
this move will provide additional liquidity comfort in the event of a strain in H2 FY13.
RBI projections for FY13
Assuming a normal monsoon, pickup in industrial activity & improved global outlook,
GDP growth is projected at 7.3% vs CMIE’s forecast of 7.6%. Inflation is expected to be
range-bound with FY13 exit WPI inflation estimated at 6.5%. Coming to the monetary
aggregates, the growth projection for M3 is 15%, credit is at 17% and deposits at 16%.
Market reaction & near-term outlook
The bond markets were pricing in a 25 bps rate cut post the IIP & inflation data
releases. The participants welcomed the positive shock of a 50 bps cut and yields
reacted sharply, correcting by 10-15 bps across tenors. This move should trigger a
correction in money market and short term rates and one can expect debt issuance
activity to pick up. However, given the heavy borrowing program, we project the rally
in Gilts to be short-lived, especially at the tail end which should trade steeper in the
absence of OMO support. As a result, we expect the gain in the 10-Y benchmark to be
capped around the 8.20-8.25% level, with the broad range for the current quarter
being 8.20-8.40%.
OIS markets should continue to trade with a steepening bias, primarily in the 1Y-2Y
segment where negative spreads can approach parity levels in the near to medium
term. The 1-Y swap rate is lower by 8 bps compared to yesterday’s close while the 2-Y
swap has just moved 2 bps lower – already causing a 6 bps steepening. The steepening
in the 2Y-5Y segment might not be as pronounced with relatively less aggressive rate
action priced in for the rest of the year.
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