Yields to stay above 8% if RBI measures long-term: Barclays

If the recent measures taken by the Reserve Bank of India to curb rupee volatility stay for longer-term, they may take bond yields above 8 percent, says Barclays Rohit Arora. However, he believes if the measures are temporary the yields could reverse and for that one needs to constantly watch the rupee.

In an interview to CNBC-TV18 he says, according to their FX strategists, rupee should stabilise over the medium-term and expects the Indian currency to be around 59 against the dollar in one month.   

Below is the verbatim transcript of Rohit Arora's interview on CNBC-TV18

Q: Bond yields have surged past 8 percent and are sticking there for the moment. Do you think we are moving into a new range with the 10-year yield?

A: If you go back to what the central bank has done, even though the measures were targeting the Fx, there were unintended consequences to the tightening into the overnight Mumbai Inter-Bank Offered Rate (MIBOR) and the money market rates. Hence, there was a selloff in the bond markets. It depends if these measures are for a sustained period or only transient.

If they are for a sustained period then the yields could continue to move higher and we could remain above 8 percent for a while, but if it is transient, which we also believe because of the slowing economy and the negative consequences, there could be a reversal after the dust settles down. But for that, one has to watch how the Indian rupee (INR) is panning out, because in the hindsight the measures were targeting the volatility and the weakness in the currency.

Q: The rupee is stabilising around 59.20/USD, not a very big jump over what it was before the Reserve Bank of India (RBI) came in with these measures. Do you think if the rupee stabilises just around these levels for the near-term, the RBI will be in a hurry to wind back the measures announced maybe even as early as the next monetary policy meeting?

A: The central bank is watching how the global capital markets are panning out. The capital markets have turned around a corner. RBI has signalled that they do not want the speculative flows. So, in the coming weeks we need to watch out how the events in global markets pan out.

We have the Fed Chairman Bernanke speaking today which will be watched out by a lot of investors in emerging markets (EM). If we go back a month, the movement was triggered in the currencies of high current account deficit (CAD) countries. Now will it sustain, it depends on how the sentiment of EMs.

Looking at the measures, the impact was not very strong on the currency and that is broadly because investors are also concerned about the unintended consequences it brings in the form of what if it is sustained for a while, does it bring any kind of weakness to the slowing economy. Given that equity inflows have been the biggest component for the portfolio flows for the country, can they slowdown and bring another negative feedback to CAD? So, there are few interconnected things that we need to be watching out for.

Q: Most people have not changed their medium or long-term targets on the rupee and are somewhere around that Rs 60/USD region for the end of this year and as high as 65/USD for the end of 2014. Would you say nothing has changed in the medium-term ramifications for the rupee and because of that the market could be looking at rate hikes sooner than it had expected to see?

A: Yes, markets had definitely priced in such scenarios, because they will look at Overnight Index Swap (OIS), they had jumped more than 100 bps yesterday. Not only is that pricing in a tightening in money markets, to an extent, people have started talking about this and it comes from the fact that other countries in EMs like Brazil have been taking such actions.

Right now, it is still difficult to say whether rupee can stabilise or not. Our Fx strategists are expecting it to stabilise over medium-term. They are still expecting that it should be around 59/USD in one month's time.