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We all have heard James Carville’s, advisor to the Bill Clinton’s administration, sarcastic dig at the bond market where he said he would rather die and come back as the bond market than the Pope because he can bully anyone. Carville’s words initially were received with an enthusiastic cackle, but over the years the response has become like a painful chuckle. You know it is true because the might of the bond markets has only increased. Hey, after all, it brought down Silicon Valley Bank to its knees and set off a minor banking crisis. All because they read the bonds wrong!
This week, aside from incremental news on the US banking crisis -- life after SVB -- there have been two big developments for domestic fixed income investors. One, India’s central government detailed its borrowing intentions for the first half of 2023-24 through a scheduled calendar. New Delhi has stuck to its habit of front-loading its borrowing. In other words, just like in the past, the government will borrow the bulk of its money in the first half (57 percent for FY24). That means bond investors will brace for a supply of Rs 8.8 lakh crore worth of government paper between April and September across tenures.
Now, the bond yield curve has seen increases disproportionately across tenures. Short-term yields have risen more while those beyond the benchmark 10-year have flattened out. In other words, investors are not asking for a premium to hold bonds with tenures of 20 years and above. Why? Long-term investors are typically insurance companies and pension funds that buy bonds in bulk and sit on them until maturity. Insurance firms have increased their heft in the bond market, absorbing almost all long-term bonds even at lower yields without breaking a sweat (read our Chart of the Day to know more). This is because life insurers saw phenomenal growth in business in the past few years, further boosted by the pandemic. When Indians began buying life insurance as COVID made us realise our mortality, life insurers had to find investments to park these premium flows. That's where long-term bonds issued by the government came in handy. But this faces a tough test now. The government is set to increase the supply of long-term bonds at the same time as insurance firms may see their business growth slowing a bit. That means long-term yields will begin to rise. Madhavi Arora, chief economist at Emkay Global Financial Services, believes this “bear-steepening” will soon manifest.
Another critical investor in bond markets are central banks. The Fed used the bond market for quantitative easing, the Bank of Japan is still using it under its yield curve control programme. The Reserve Bank of India (RBI) has stepped away from the bond market. But as Arora points out, the central bank may be at the end of its rate hiking cycle and that should drive down short-term yields. That brings us to the second development for the bond market. The RBI cancelled all bids at the 91-day Treasury bill auction, a signal that it was uncomfortable with the yields. This means, the central bank believes short-term bond yields must cool off.
Who else buys bonds? Mutual funds! Fund houses are in the doghouse now because of the changes in tax rules on capital gains for debt funds. Ananya Roy examines what this means here and says the government needs to come clean with its intentions. Meanwhile, this means fund houses will continue with their selling in the bond market owing to redemptions in their debt funds. India’s domestic bond market is poised to see a shift in its investor base. The government will also issue ‘green bonds’ in the second half which attracts special kind of attention.
Meanwhile, there is a different kind of ‘bonding’ that is going on with state governments. Our coverage of the Karnataka Assembly polls due May 10 will keep you updated. For now, G C Shekhar writes here that ruling parties are back at playing the quota game to woo voters of select castes and communities.
Investing insights from our research team
Weekly Tactical Pick – Valuation of this small-sized private bank looks compelling
Mahindra CIE: Strategic move to improve profitability
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SEBI's announcement will make trading costly and impact discount brokers the most
Akasa’s early success a warning to the big boys of Indian skies
India’s gaming ecosystem deserves policy handholding
Heterogeneous societies need to learn from UK for their own good
‘Greedflation’: profit-boosting mark-ups attract an inevitable backlash (republished from the FT)
Personal Finance: Finance bill amendments cast a burden on investors and the capital market
China's lending to developing nations is no threat to the dollar, yet
Worried about shadow banking? Don't look just at China
Crypto gets red carpet treatment in Paris, and red flags
Technical Picks: Hindustan Unilever, TCS, IOB, Guar seed and Power Finance Corporation (These are published every trading day before markets open and can be read on the app)
Aparna Iyer Moneycontrol Pro
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