DSP BlackRock Sees India Yield Bottom Amid World-Beating Rally

Updated on
  • Yield compression temporary as customers replace junked bills
  • Fund bullish on financials, consumer stocks after selloff

DSP BlackRock Investment Managers Pvt. says Indian sovereign bond yields are bottoming out amid a world-beating rally that’s dragged them to the lowest level since 2009.

The benchmark 10-year yield has slid 51 basis points this month as a gush of liquidity in the financial system boosts local demand for debt. Banks have received $87 billion in deposits after Prime Minister Narendra Modi’s shock move to scrap 86 percent of the currency saw people across Asia’s third-largest economy rushing to submit old bills, creating a problem of plenty in the financial system.

“The yield compression is warranted given the amount of deposits that have come in and the fact that credit demand has been somewhat lackluster,” S. Naganath, chief investment officer at DSP BlackRock, an Indian venture of the world’s top money manager, which has $7.5 billion in local assets, said in an interview in Mumbai. “For someone to argue that yields will go down further, I would not entirely agree with that.”

This month’s decline in the yield is set to be the biggest since May 2010. Modi’s move Nov. 8 to recall 500 rupee ($7.3) and 1,000 rupee notes in an effort to stamp out undeclared wealth. The drop in India contrasts with a spike in yields in most global markets amid concern that Donald Trump’s fiscal stimulus policies will quicken the pace of U.S. rate increases. Indian bond prices will cool off as cash withdrawals, currently a third of the deposits, accelerate after the temporary limits are lifted, said Naganath.

“Whether some of these deposits stay or they get withdrawn over time remains to be seen,” Naganath said. “You’ll probably withdraw all of it because the money was your preferential liquidity that you held with you.”

Weak Rupee

Foreign investors have been selling into to the rally. Their holdings of local government and corporate bonds have plunged by 97.2 billion rupees ($1.4 billion) in November, set for the biggest outflow since April 2014, National Securities Depository Ltd. data compiled by Bloomberg show.

The withdrawals drove the rupee to a brink of a record low on Thursday. The currency’s one-month implied volatility, used to price options, climbed 221 basis points to 6.75 percent this month, data compiled by Bloomberg show. That’s the highest level since April 2014.

“We have to consider whether the volatility in the currency can cause more than normal selling of bonds held by foreign investors, especially if they respond to currency volatility more than the possibility of a rate cut,” said Naganath.

A banking system awash with liquidity and a likely slowdown in consumer demand following the cash ban has raised bets for further monetary easing. A panel led by the Reserve Bank of India Governor Urjit Patel last month reduced the benchmark rate to the lowest in more than five years.

“I anticipate another 25-basis point cut in the next three months,” Naganath said. “To those who say that we will get a 50-75 basis point cut, I think that’s a bit too optimistic.”

‘Entry Point’

While the anti-graft measure has spurred a rally in bonds, the clampdown has put the S&P BSE Sensex on track for its biggest monthly loss since February. The selloff is an opportunity to boost holdings of financial-services companies, and may provide an “attractive entry point” to buy automakers and consumer stocks, said Naganath.

DSP BlackRock Top 100 Equity Fund held about a third of its 36-billion rupee assets in banks and 17 percent in auto companies as of Oct. 31, data compiled by Bloomberg show.

“Financials have done very well in the past few months and are facing some weakness in the near term,” he said, without naming companies. “If they weaken a little more, I would be a big buyer. Financials will do better than bellwether indexes” over the next two years as economic growth accelerates, he said.

(Updates with rupee level in seventh paragraph.)
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