Axis MF favours 1-5 years corporate bonds as banking liquidity improves

The RBI has introduced several measures to lift up liquidity in the banking system.

Tracking the improving liquidity situation in banking system due to the slew of measures undertaken by the Reserve Bank of India, Axis MF believes it's time for investors to add 1-5 year corporate bonds to their portfolios.

The mutual fund pointed several factors support to support its outlook. Banking system liquidity is expected to remain in surplus, corporate bond and certificate of deposit (CD) issuance is likely to decline due to an economic slowdown and delays in implementing Liquidity Coverage Ratio (LCR) guidelines, all tailwinds that improve prospects for corporate bonds.

In addition, the fund house also stated that valuations for short-term corporate bonds appear attractive.

From a risk-reward perspective, Axis MF believes that short-term bonds could outperform long bonds in the near term.

Their thesis is based on the likelihood of a shallower rate cut cycle given the ongoing economic recovery and external uncertainties such as tariffs and currency fluctuations. Moreover, the pace of RBI’s open market operations (OMO) purchases is likely to slow in the second half of the year, with an estimated Rs 1-1.5 lakh crore in additional purchases expected in the next fiscal year.

Furthermore, with the government shifting its fiscal focus from deficit reduction to managing the debt-to-GDP ratio, the scope for further fiscal consolidation appears limited, the fund house believes.

Considering these factors, Axis MF anticipate short-term corporate bonds (3-5 years) to perform at least as well as, if not better than, long-duration bonds. The combination of a shallow rate-cut cycle and favourable liquidity conditions reinforces the case for increasing exposure to short-duration corporate bonds in investment portfolios, the firm said.

As for long-term government bonds, Axis MF had maintained a positive outlook throughout 2024,  largely backed by favourable demand-supply dynamics. The inclusion of Indian government bonds in JP Morgan indices attracted around $20 billion in foreign portfolio investment (FPI) inflows.

Additionally, fiscal consolidation efforts over the past two years have successfully reduced the fiscal deficit from 5.4 percent to 4.4 percent of GDP. The RBI further addressed liquidity concerns by conducting over Rs 2.5 lakh crore in OMOs, including secondary purchases, in the first quarter of 2025.

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