Bear Market in Indian Equities Seen Driving Money to Bond Funds

  • Central bank to cut interest rates again by June, survey shows
  • Ten-year yield could drop 50-75 basis points by Dec. 31: Axis

Indian fixed-income mutual funds are benefiting from an equity selloff that’s driven the benchmark stock gauge into a bear market.

Kotak Mahindra Asset Management Co. and Axis Asset Management Co. predict increased inflows for debt plans, which in January took in the highest amount in three months as demand for equity products moderated. Rupee sovereign bonds returned 8.1 percent last year, while the S&P BSE Sensex index slumped 5 percent.

The cost to lock in borrowing costs for a year has fallen from a two-week high as the central bank acts to ease a cash crunch and speculation builds for a benchmark interest-rate cut by June. Global holdings of rupee-denominated debt have remained steady this year even as foreign investors have dumped Indian stocks.

“Inflows to fixed income will pick up as equities underperform and if interest rates come down,” said Nilesh Shah, managing director at Kotak Mahindra Asset in Mumbai, which oversees 551 billion rupees ($8.1 billion). “It’s natural for equity investors to pause a little as their return expectations have not yet materialized.”

Income funds attracted 150.1 billion rupees last month, the most since October, according to data from the Association of Mutual Funds in India. That took net inflows since the start of the financial year in April to 297.1 billion rupees. By contrast, the 21.3 billion rupees lured by stock funds in January was the smallest amount in 21 months. They have witnessed net inflows of 691.8 billion rupees in the April-January period.

Reserve Bank of India Governor Raghuram Rajan will cut the benchmark repurchase rate by 25 basis points to 6.50 percent by June, according to the median estimate in a Bloomberg survey. The central bank, which lowered the rate by 125 basis points in 2015 in the biggest easing in six years, continues to be accommodative, Rajan said in a statement after leaving borrowing costs unchanged at the latest review on Feb. 2.

January Inflation

Consumer prices rose 5.69 percent in January from a year earlier, the most in 17 months and exceeding the 5.4 percent median estimate in a Bloomberg survey, official data showed on Friday.

“We continue to expect the RBI to cut by 25 basis points on April 5 with CPI inflation meeting its under-6 percent January 2016 mandate,” Bank of America Merrill Lynch economists Indranil Sen Gupta and Abhishek Gupta wrote in a report on Monday.

Cash Squeeze

The central bank has increased cash injections through regular term-repurchase auctions and resumed open-market purchases of bonds in December after a gap of almost two years as it addresses a funds shortage in the banking system that’s making borrowers pay more for short-term debt than they have for almost a year. The RBI will conduct additional operations to meet liquidity needs next month, it said in a statement Thursday.

The one-year swap rate has fallen five basis points since reaching a two-week high of 6.97 percent on Feb. 3, data compiled by Bloomberg show. The yield on sovereign bonds maturing in May 2025 has climbed nine basis points this year to 7.85 percent in Mumbai on Monday. That on the debt due January 2026, the new 10-year benchmark, has risen 17 basis points since the securities were issued last month to 7.75 percent.

“The liquidity shortage has contributed to the rise in bond yields,” said Killol Pandya, Mumbai-based head of fixed income at Peerless Funds Management Co., which oversees about 10 billion rupees. “There is a segment of investors that is attracted to valuations at this level.”

‘Stable Returns’

Renewed concern about the health of the world economy has sapped demand for riskier assets, with overseas investors withdrawing a net $2.1 billion from Indian shares in 2016.

The Sensex plunged 6.6 percent last week in its biggest loss since 2009 as the selloff in global equities intensified. The gauge has fallen more than 20 percent from a January 2015 record, meeting the common definition of a bear market.

Investors are getting back to debt “due to higher yields as well as the fact that other asset classes, typically equities, are not performing that well,” said R. Sivakumar, Mumbai-based head of fixed income at Axis Asset, which oversees about 346 billion rupees. “They would look for more stable returns, especially when global markets are very uncertain.”

Sivakumar said the 10-year bond yield could drop 50-75 basis points by Dec. 31 amid an equal reduction by the RBI in its repo rate.

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