Will Reserve Bank of India raise interest rates tomorrow?

Reserve Bank of India (Representative image)

Reserve Bank of India (RBI) Governor Shaktikanta Das will announce the first monetary policy of the new financial year on Friday. Central bankers globally have started increasing interest rates to douse inflation, but RBI has, so far, been supportive of economic growth and left rates untouched.

Will we finally see interest rates rise, and if yes, how does that impact you as an investor or a borrower?

Will RBI act?

The RBI is doing a tight-rope walk. Economic growth has started accelerating, but it still needs some policy support. Inflation has quickened and savers are feeling the pinch of negative real rates – the nominal rate of interest minus the rate of inflation. The central bank has to ensure that economic growth continues, inflation stays under control and, at the same time, savers receive positive real rate of interest.

BofA Securities, in a recent report, said it expects RBI to keep key rates unchanged. It expects the central bank to revise the inflation forecast up.

“There is ample liquidity in the system and there is not much credit offtake. RBI has been supportive of durable economic growth which may get challenged by inflation,” said Dwijendra Srivastava, chief investment officer-debt, Sundaram Mutual Fund. “For the time being, the RBI may maintain the accommodative stance as well as hold all key rates constant,” he added.

Although most experts do not anticipate a rate hike this week, they expect RBI to offer inputs about the future course of monetary policy. “Though there is no expectation of a rate hike tomorrow, the RBI may offer some guidance about the future course of action on the tightening, in addition to revised inflation estimates,” said Joydeep Sen, corporate trainer-debt.

Inflation and real rates

Inflation is a serious challenge for the central bank as also for fixed-income investors. Unprecedented liquidity infusion by central bankers globally to fight the economic slowdown caused by COVID-19 has led to an inflationary spiral.

RBI, after the February Monetary Policy Committee (MPC) meeting, forecasted inflation at 4.5 percent, assuming a normal monsoon. India’s consumer price inflation accelerated to 6.07 percent in February 2022.

The oil shock after the Russia-Ukraine war could quicken inflation. Fuel prices in India are being raised gradually, and the effect of the increases should reflect in the inflation numbers soon. HSBC Global Research expects inflation to average around 5.6 percent in the current financial year if oil averages around $ 100 per barrel. Imported inflation on account of crude oil, edible oils and metals make the MPC’s task more difficult.

Some experts believe this will act a nudge for increasing interest rates sooner than later. Deepak Panjwani, head-debt markets, GEPL Capital, expects RBI to switch from an accommodative to neutral policy stance, and hike the reverse repo rate by 25 basis points in its April review.

Your stance as an investor

Most fixed-income investors are aware of discussions around rate hikes. The bond markets have also seen a steady rise in interest rates. But there is little progress when it comes to a hike in repo rates or any material hike in fixed deposit rates, which are hovering around 5-5.5 percent. Investors have had no choice but to settle for negative real rates. Although investors should not be locking in their money for the long term, there is no case for sitting on cash as well.

“Invest at the short-end depending on one’s investment timeframe. If the interest rates go up, then a more informed decision of moving to a higher rate can be taken after accounting for the premature penalty on the existing fixed deposit,” said Sen.

Put simply, do not keep money in liquid funds or bank savings account or very short-term fixed deposits. Instead invest in a one- to two-year fixed deposit and decide when the rates actually go up.

Short-term products

Srivastava said: “Investors are better off investing in short-duration products depending on their financial goals. Investors can also look at medium-term roll-down products provided their investment timeframe matches with the maturity profile of the bonds held.”

Although the rate hike cycle may seem to be getting delayed, long-term bond funds are best avoided. Long-term bond yields have soared, inflicting mark-to-market losses on investors. From a low of 5.76 percent on July 10, 2020, the 10-year yield rose to 6.91 percent on April 6, 2022. According to Value Research, gilt funds yielded 3.07 percent returns over the one year ended April 5, 2022. Investors in long-term bond funds may face the heat of rising rates.

“RBI may raise the repo rate by 50 to 75 basis points. But the impact on long-term government bonds may not be as much, as the bond markets have been factoring in the possible rate hikes. But for the time being, stay away from long-term bond funds to avoid volatility,” said Sen.

Panjwani also advocates investing in fixed-income avenues with a two - to three-year maturity. He expects long-term yields to rise. “Over the next three to six months, the 10-year benchmark yield should move towards 7.42-levels and going forward, the upper range of 7.75% is possible,” he said.

Given uncertainty over the extent and pace of an interest rate hike, investors would be better off with short-duration bond funds.

Will home loans become dearer?

Given the expectation of RBI holding rates tomorrow, home loan customers can breathe easy for now as many home loans given by banks are linked to the repo rate. But the low interest-rate regime is expected to end soon. So be prepared for a hike in the repo rate and consequently, an increase in the equated monthly instalments (EMI) on existing loans. New home loans, too, may get repriced up if the RBI signals the start of a fast-paced rate-hike cycle.