CPI inflation for November was at a 40 months high of 5.54% largely on the back of rise in food prices. Core CPI inflation was at 3.4% to 3.6% signalling lack of pricing power given weak consumer demand. However, core CPI could rise on the back of rise in telecom tariffs, hike in automobile prices starting January 2020 on BSVI implementation and also hike in other services prices that were driven to unviable lows over the last few years.
The fact that core CPI inflation could rise from current levels would mean that RBI will have less leeway to lower the repo rates in its upcoming policy review. The government is fiscally strained and is likely to show higher fiscal deficits for this year and also the next fiscal year, as it looks to pump prime the economy. Higher fiscal deficit is usually followed by higher inflation given that government is an inefficient in allocating resources.
Uncertainty on further rate cuts and highergovernment borrowing will keep yields across the government bond, corporate bond and money market yield curves pressured though rise will be limited by huge liquidity and low levels of repo rate at 5.15%, which is more likely to be kept stable for a while.
Bond markets will stay in a negative sentiment zone until the government comes out with its new borrowing numbers. On the positive side, sharp fall in trade deficit on lower oil imports weak IIP growth for October at negative 3.8% and falling credit growth at 8% in November points to overall weak economy and high liquidity (given that ICDR is at below 65%), which will prevent yields from rising too high. Markets will look for carry in risk free and highest safety credits rather than play any direction on yields.
The benchmark 10-year bond, the 6.45% 2029 bond, yields rose by 12 bps to 6.79% on a weekly basis. The benchmark 5-year bond, the 6.18% 2024 bond, yield soared by 27 bps to 6.64% and the 6.68% 2031 bond yield rose by 10 bps to 7.16%.
One-year OIS yield declined by 1 bps to 5.29% while the five-year OIS yield increased by 6 bps to 5.50% on a weekly basis.
System liquidity as measured by bids for Repo, Reverse Repo, Term Repo and Term Reverse Repo in the LAF (Liquidity Adjustment Facility) auctions of the RBI and drawdown from Standing Facility (MSF or Marginal Standing Facility) was in surplus of Rs 2870.98 billion as of 13th December 2019. Liquidity was in a surplus of Rs 3089.69 billion as of 6th December 2019.
