GREAT OPPORTUNITY AT LONG END OF THE CURVE
I have been giving investment calls in Long end of the yield curve from time to time giving various reasons for the same. Last year I had spoken about this on numerous occasions (some of my reference notes for your perusal are my blog entries dated September 07’2009 titled “SHOULD ONE TAKE CONTRARIAN CALL & INVEST AT THE LONG END OF THE CURVE? & another Blog entry of December 07’2009 titled: ONCE AGAIN AN INVESTMENT OPPORTUNITY AT LONG END-WHEN? & WHY ?
I had given several reasons for propagating these contrarian views. Some of them were technical and some of them were fundamental economic reasons. Most of these reasons are panning out quite well.
Some of the main reasons cited were:
- Technical reason when differential in overnight rates & 10 year benchmark were at all time historical high of 425 bps in the month of September’2009
- Lower credit offtake figures when I had written in December 2009
- We were hoping for a lower petroleum subsidy figures for FY 2010-2011 after an announcement by both Petroleum Ministry & MoF who were working on a joint formula for a sustainable oil subsidy
- Fiscal stimulus roll back resulting in better revenue collections
- Higher GDP growth expectations again resulting in better revenue collections
- 3 G Auction and disinvestment of PSU stocks; helping reduce Fiscal Deficit numbers
Where do we stand now as far as above points are concerned:
- Historically overnight rates and 10 year benchmark rate differentials have been hovering between 135-150 bps. Currently due to tightening of the liquidity & subsequent increase in overnight rates to 5.50% to 5.60% & 10 year benchmark at around 7.65% this differential is at 200 bps. Once the systemic liquidity improves due to Govt spending, G Sec redemptions of almost Rs.50,000 crs in the current month & RBI paying dividend to the Govt of close to Rs.25-30,000 crs the overnight rates will start easing off & will come closer to the Reverse REPO rate of 4% . This will then widen gap once again between overnight/10 year benchmark to 3.5% to 4% levels giving rise to a technical rally to reduce this gap.
- Ministry of Petroleum has already announced a formula to go towards free pricing of petroleum products in a phased manner. As the first phase, they have already hiked both petrol & diesel prices. This will go a long way in reducing petroleum subsidy figures & help in fiscal consolidation. Great for long end of the curve.
- Fiscal stimulus roll back announcements in the Budget is already accounted for in the borrowing programme numbers for the current fiscal year
- Higher GDP numbers have already been translated in higher tax collection figures. Corporate tax collections have grown by 21.7% in first quarter & advance tax collections for Q1 of current year are already up by 31.4% compared to Q1 collections of last year.
- More than triple the estimated collection figures of more than Rs.1 lac crs in 3 G & BWA Auctions have made the Govt coffers richer to that extent & helped in improving country’s fiscal position
- IMF has upgraded India’s GDP growth rate from 8.80% to 9.40% for 2010 in its July release of world Economic Outlook on back of robust corporate profits & increased Govt thrust on investments & reforms.
- This could result in rerating of Indian Companies leading to better fund flows into India. Another positive for long end of the curve.
- Since the Govt borrowing programme was front loaded; hence second half will be a much lighter borrowing calendar.
- With so much of positive revenue flows from all quarters there is a talk of reducing borrowing in the second half ; which can be a great sentiment booster for the debt markets
- Though inflation numbers are a concern with likely hood of one more rate hike in July end Policy Review, with good monsoon & base effect kicking in from August onwards, inflation numbers will start easing off.
Hence, any investor with 9-12 month horizon can look to invest in long term bond funds (which will have higher carry than long term G sec funds) & Long term GILT schemes. I expect the 10 year benchmark yields after peaking off some time by July end should start easing off for all reasons mentioned above & can come down in the range of 7.25% to 7.50% by March 2011. Even currently as being noticed, even after the rate hike, 10 year benchmark has marginally gone up to 7.65% from 7.58 to 7.60% levels. One can start investing in tranches from now and July end.
Comments
Can you please give some Good long term Bond Funds names, which will have higher carry than long term G sec funds.
Regards,
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