Franklin Templeton Asset Management (India) Pvt. and Nomura Asset Management Co. predict rupee bonds will extend the longest run of gains in more than a decade as inflation below 5 percent adds room for interest-rate cuts.
Templeton raised holdings of local sovereign debt in its Income Builder Fund as the 10-year (GIND10YR) yield slid 72 basis points since March 31 to 7.24 percent, set for a sixth quarterly drop. Similar rates in China fell 13 basis points. Nomura Asset, which handed yen-based investors a 36 percent gain from its India Bond Fund (0131611B) in the year through April, says easing price pressures will allow India to add to the most aggressive monetary easing since 2009.
“There is a need for lower borrowing costs, given the overall weak macro environment,” Santosh Kamath, Mumbai-based chief investment officer for fixed income at Franklin Templeton Asset, which manages 429 billion rupees ($7.5 billion) in local assets, said in an e-mail on June 6. “Positive news flow on inflation will be good for bonds.”
Rupee-denominated government bonds have outperformed those in the four biggest emerging markets this year as the Reserve Bank of India lowered borrowing costs to arrest the worst economic slowdown in a decade, while policy makers in Brazil, China and Russia are focused on restraining inflation. The benchmark wholesale-price index probably gained 4.86 percent in May from a year earlier, the least since November 2009, compared with 4.89 percent in April, a Bloomberg survey showed.
Investors in India put 201.6 billion rupees into fixed-income funds in April, the most in six months, while they pulled 800 million rupees from equity plans, according to the most recent figures on the Association of Mutual Funds in India’s website. Banks, the biggest buyers of government bonds in India, boosted ownership by 1.1 trillion rupees since Dec. 31 to 20.5 trillion rupees as of May 15, central bank data show.
“There could be scope for the 10-year government bond to rally below 7 percent should the RBI cut policy rates by more than current market expectation,” Simon Tan, a Singapore-based fund manager at Nomura Asset, which manages $280 billion globally, said in an e-mailed response to questions on June 7. “We view a 25 basis point to 50 basis point cut to be priced into current Indian bond levels. We are comfortable to increase exposure onshore.”
ICICI Bank Ltd., India’s largest private lender, sees the 10-year yield falling below 7 percent for the first time in four years as the RBI adds to this year’s three rate cuts, Shilpa Kumar, Mumbai-based head of treasury at the lender, said in a June 3 interview. The yield on the benchmark 7.16 percent note due May 2023 rose three basis points on June 7.
Local-currency sovereign debt returned 7.7 percent this year in India, compared with 1.8 percent in China and 1.2 percent in Russia, according to indexes compiled by JPMorgan Chase & Co. Brazilian notes lost 15 percent.
RBI Governor Duvvuri Subbarao reduced the repurchase rate by 75 basis points, or 0.75 percentage point, since Dec. 31 to 7.25 percent to revive Asia’s third-largest economy. Gross domestic product increased 5 percent in the fiscal year ended March 31, the least since 2002-2003, according to official figures released on May 31.
The central bank will next review policy on June 17. Cooling price pressures give the RBI larger room for policy decisions, Chakravarthy Rangarajan, chairman of Prime Minister Manmohan Singh’s economic advisory council, said in a May 17 interview with Bloomberg TV India.
While domestic demand for debt has increased, global money managers have reduced holdings of rupee-denominated government and corporate notes by $2.5 billion from a record $38.5 billion reached on May 21, exchange data show. Outflows amid concern U.S. policy makers will scale back policies that have boosted dollar supply fueled a 4.9 percent drop in the rupee this quarter, the worst performer among Asian currencies.
The rupee dropped 0.4 percent to 57.0650 per dollar on June 7, falling past the 57 level for the first time in almost a year. International investors pulled a record $12.5 billion from bond funds globally in the week ended June 5, Citigroup Inc. said in a June 7 report citing EPFR Global, a Cambridge, Massachusetts-based company that tracks fund flows and asset allocation.
Currency declines threaten to make imported goods costlier, stoke inflation and reduce scope for monetary easing, and that would deter some investors from buying bonds, according to SBI Funds Management Pvt. and Quantum Asset Management.
India’s current-account deficit widened to a record $32.6 billion in the final quarter of 2012 as exchange-rate losses boosted the value of inward shipments.
“The central bank seems to be focused on the current account deficit and external imbalances and there isn’t much room for interest rates to come down,” Rajeev Radhakrishnan, head of fixed income in Mumbai at SBI Funds, said in a June 4 interview. “There has been a significant rally in bonds and that will also deter investors from adding to their holdings.”
Foreign investment in India’s bond market is relatively low and that makes local debt less vulnerable to capital outflows triggered by bets favoring U.S. assets, according to Nomura. Combined international holdings of rupee-denominated government and company notes were at $36 billion on June 5, compared with the equivalent of $557 billion in outstanding sovereign securities, according to central bank data.
India’s decision to ease rules on overseas ownership of local bonds also will spur gains in the market, according to Nomura. The government increased this year a limit on foreign holdings, cut a tax on such investments and simplified rules on such purchases.
Templeton’s Income Builder (KOTINBA) Fund gained 7.6 percent this year, beating 92 percent of peers. The fund ranked fifth among 99 domestic fixed-income funds in 2012 with a 12 percent return, according to data compiled by Mumbai-based Value Research Ltd. It had 49 percent of its assets in government bonds and 34 percent in corporate debt.
Nomura’s India Bond Fund had 19 percent of its assets in government securities at the end of April, according to data provided by the company. Dollar-denominated bonds sold by local firms made up 59 percent.
Bond risk in India has slid this year. The cost of insuring the debt of State Bank of India, considered a proxy for the sovereign, using five-year credit-default swaps fell 23 basis points since Dec. 31 to 202, according to data provider CMA, which is owned by McGraw-Hill Cos. and compiles prices quoted by dealers in privately negotiated markets.
“Foreigner participation in the rupee bond market is still low and the Indian government has been increasing its appeal,” Nomura’s Tan said. “We believe Indian bonds will be less affected by effects of U.S. Treasury moves compared to other regional countries.”
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