The government bond market will start placing rate cut bets starting this week, as there are increasing signs of RBI lowering the key policy rate, the repo rate in its October 30th 2012 monetary policy review. RBI has enough data that reflects a sharp slowdown in the economy and even if inflation prints at over 7.5% levels for September 2012, rate cuts should happen.
The IIP (Index of Industrial production) growth for August 2012 came in at 2.7% year on year against a growth rate of 3.4% seen in August 2011. Manufacturing growth for August 2012 was at 2.9% against a growth rate of 3.9% seen in the previous year. The April – August 2012 IIP growth was at 0.4% against a growth rate of 5.6% seen in the same period last year while manufacturing growth was at 0% against 6% growth for 2011. IIP data reflects a sharp slowdown in industrial growth and despite question marks on the quality of data, the slowdown in visible.
The auto industry body SIAM has revised 2012-13 sales forecasts downwards with passenger car sales growth pegged at 1% to 3%, commercial vehicle sales growth placed at 3% to 5% and motorcycle sales growth forecast at 5% to 7%. The growth forecasts have been revised down by 3% to 5% across categories. Auto sector is feeling the effects of high interest rates and downbeat sentiments on the economy.
Export growth for the first six months of fiscal was a negative 6.8% while import growth was negative 4.3%. The slowdown in trade reflects the state of the global economy, which is showing signs of further weakening on the back of worries on China growth and on the back of debt issues facing European nations.
Corporate tax for the April-September 2012 period grew by just 1.6% indicating weak corporate profitability. Gross direct tax collection grew by 5.8% for the April-September 2012. Direct tax growth is reflecting the slowdown in the economy.Banking indicator of credit growth is also reflecting a weak economy. Credit growth was just 1.3% for the April-September 2012 period while it was 16.4% on a year on year basis as of September 2012. Credit growth for September 2011 was at 20% levels. Credit off take has come off on the back of high interest rates and low business confidence.
Inflation as measured by the WPI (Wholesale Price Index) is expected to come in at over 7.5% levels for the month of September 2012. Inflation for August 2012 stood at 7.55%. The diesel price hike made by the government to bring down its subsidy bill will impact September 2012 inflation. However demand drivers of inflation are absent as seen by the macro economic data and this should give comfort to the RBI for rate cuts.
Liquidity as measured by bids for repo in the LAF (Liquidity Adjustment Facility) auction of the RBI tightened last week on the back of product covering by banks in the first week of the reporting fortnight. Bids for repo averaged Rs 61,000 crores on a daily basis against an average of Rs 36,000 crores seen in the week previous to last. Deficit liquidity conditions help in containing inflation expectations.
Ten year government bond yield at 8.16% levels has hardly moved over the last four months. On the other hand corporate bond and OIS (Overnight Index Swap) yields have come off by around 40bps to 50bps since June 2012. The corporate bond and OIS yield curves are factoring in lower rates and easier liquidity conditions. It is time for a government bond rally and the rally should start now on rate cut bets.
Governmentbondauctions
The government auctioned Rs 13,000 crores of bonds last week. The bonds auctioned were the 8.07% 2017 bond for Rs 3000 crores, the 8.15% 2022 bond for Rs 7000 crores, and the 8.97% 2030 bond for Rs 3000 crores. The cut offs came in at 8.14%, 8.18%, and 8.39% respectively. The government is scheduled to auction Rs 13,000 crores of bonds this week.