Inflation spike drives 10-year bond yields to fresh 3-year peak at 7.2%

The 10-year bond yield surged further to hit a near-three year high after the consumer price inflation data showed a faster acceleration than economists had estimated.

The 10-year bond yield rose 8 basis points in the opening to 7.278 percent. At 11am, the 10-year bond yield was trading at 7.239 percent - a level last seen on May 23, 2019, up 5 basis points from its previous close of 7.19 percent. Bond yields and prices move in opposite directions.

Retail inflation in both the US and India was reported to be higher than expected in Mar 22. Inflation in the US has confirmed that the Fed is likely to hike rates aggressively. Even the RBI is expected to begin rate hike soon as CPI touched 17-month high, analysts said.

Consumer prices rose 6.95 percent in March from a year earlier, the Statistics Ministry said in a statement on Tuesday. That’s faster than the 6.1 percent rise in February, and compares with a 6.40 percent gain predicted in a Bloomberg survey of economists. Food prices, which comprise about half of the inflation basket, climbed 7.68 percent in March. Fuel and electricity prices rose 7.52 percent, while clothing and footwear accelerated 9.4 percent.

The US CPI jumped 8.5 percent in March from 12 months earlier, the sharpest year-over-year increase since December 1981.

"On the back of uncertainty brewing amid the geopolitical risks, disruption in the global supply chain and elevated commodity prices remain a concern. This is likely to feed into the food inflation and add to the input cost pressure in the coming months. The RBI’s proactive move to pivot towards inflation and withdrawal of liquidity measures in a calibrated manner is a step in the right direction," said BoB Capital in its recent note.

Brokerage firm UBS Securities now expects a 50-75bps hike in repo (policy) rate in FY23.

The bond yield is already under pressure amid higher borrowing supply, surge in crude oil prices and also after the RBI decided to introduce a liquidity absorption tool at 3.75 percent, called the standing deposit facility, which will now be the floor of the interest rate corridor. By practically making redundant the reverse repo, which stands at 3.35 percent, the RBI has affected an indirect tightening of 40 basis points.

The RBI also raised its annual inflation forecast to 5.7 percent from 4.5 percent, while lowering the growth projection for FY23 to 7.2 percent from 7.8 percent, in its bi-monthly policy.

"The Russia-Ukraine war has caused a sharp increase in global energy and commodity prices. China's tightening of COVID-19-related restrictions is a potential source of new supply chain disruption. In addition, the full impact of pass-through of higher global crude oil prices to retail domestic prices of gasoline and diesel is not yet reflected in headline inflation numbers and will be felt in the month of April" said Tanvee Gupta Jain, Chief India Economist, UBS Securities.

"For the full year, we expect inflation to average 6 percent YoY (well above the RBI's inflation forecast of 5.7 percent) in FY23, with risks skewed to the upside. The risks include global commodity prices remaining elevated for longer considering the evolving geopolitical situation and/or transmission of input cost push pressures to retail prices," Tanvee Gupta Jain added.