Bonds Halt Indian Rally as DBS Says Rate Cuts May Prove Elusive

  • ‘Markets might be caught wrong-footed’ on easing bets: DBS
  • Rajan to preside over his last scheduled policy review Tuesday

Indian sovereign bonds are losing steam after rallying last month by the most since 2013 amid concern investors may have been too optimistic in their expectations for interest-rate cuts.

The Reserve Bank of India will keep the benchmark repurchase rate unchanged at Tuesday’s monetary policy review, according to 26 of 27 economists in a Bloomberg survey. One expects a 25-basis point reduction to 6.25 percent. The government on Friday cemented Governor Raghuram Rajan’s inflation target, signaling that it would continue the battle against one of Asia’s strongest price pressures even after he leaves the central bank early next month.

The yield on government notes due January 2026 climbed one basis point to 7.17 percent at the close in Mumbai, prices from the central bank’s trading system show. It was little changed last week after plunging 29 basis points in July, the biggest decline in yield for a benchmark 10-year security since May 2013.

Read: Investors ‘Going Long’ India Bonds as Rate-Cut Bets Extend Rally

“Expectations for a dovish successor have spurred markets in the recent weeks,” Radhika Rao, an economist at DBS Bank Ltd. in Singapore, wrote in a research report Monday. The decision to maintain inflation targets “reinforces our view that the markets might be caught wrong-footed with their expectations for an overtly-accommodative monetary policy under the next Governor,” she wrote.

The RBI will aim to keep consumer-price inflation at 4 percent through 2021, while allowing the rate to fluctuate in a 2 percent to 6 percent band, the government told lawmakers in a statement on Friday. Prices rose 5.77 percent in June, the fastest pace in 22 months.

“Markets are likely to look beyond the central bank’s decision to keep rates on hold on Tuesday, instead tapping into Governor Rajan’s commentary,” Rao of DBS wrote. “There is a high likelihood that inflation remains sticky in July/August on firm food prices, before easing toward late in the year on favorable base effects, positive crop sowing data and renewed softness in global commodity prices.”

Tuesday’s Policy

Rajan is expected to share his views on the goods-and-services tax, known as GST, when he reviews policy on Tuesday. With implementation set for April 1, 2017, the sweeping new levy will replace a jumble of state taxes that inhibit trade. The higher it’s fixed, the more it risks stoking the inflation rate.

India is currently making a new rate-setting panel that will implement the inflation target. Rajan announced he would return to academia after a key ally of Prime Minister Narendra Modi accused him of stifling growth by keeping rates too high.

“Given the rise in CPI inflation over the last few months, we expect the RBI to be on hold,” HSBC Holdings Plc economists Pranjul Bhandari and Prithviraj Srinivas wrote in a report dated Aug. 7. “Beyond the August meeting, we expect the RBI to cut the policy repo rate by 25 basis points in the fourth quarter, if rains remain strong. We do not see space for more.”

The rupee weakened 0.1 percent to 66.8450 per dollar, according to prices from local banks compiled by Bloomberg.

Read: Goldman Hails Modi Triumph as August Jinx Threatens Rupee Rally

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