19 Jun 2022

Flat UST curve and its impact on G-secs, INR

The flatness of the UST yield curve where yields from 3 year to 30-year USTs are almost the same indicates stagflation/ recession along with high inflation and this will impact g-sec yields and the INR.

author dp
Team INRBonds
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To combat inflation, Fed hiked interest rates by 0.75% during its June 2022 policy-meeting, which is the most aggressive rate hike since 1994. The Fed also guided for either 50bps or 75bps rate hike in its July 2022 policy-meeting.  Fed rate hikes will lead to the yield curve staying flat for a longer while amid high inflation.

Impact on Indian bond yields and INR

RBI hiked policy repo rate in its last policy meeting to 4.90%. Further rate hikes are on cards in forthcoming policy meetings. Considering both Fed rate hike and RBI rate hike, domestic bond yields will continue the uptrend seen over the last 18 months, but yield curve will flatten with short term bond yields spiking. There is also a possibility of an inverted yield curve if liquidity tightens considerably

In view of Fed rate hikes, more capital outflow is expected from domestic markets. INR is likely to depreciate further. A steady depreciation of the Indian rupee and rise in global policy rates will increase the borrowing costs of companies accessing funds through the External Commercial Borrowing route. Current account deficit is likely to widen further in near future.

Domestic Inflation-Consumer inflation came down to 7.04% in May of 2022 from an 8-year high of 7.79% in the previous month. Core inflation stood at 6.1% during May 22.

Government bonds, SDL and OIS yield movements

Last week, 10-year benchmark 6.54% 2032 paper yield rose by 3 bps to 7.55%. The 5-year benchmark bond, 6.79% 2027 yield rose by 5 bps to 7.35%. 6.64% 2035 yield increased by 1 bps 7.68%. Long-term paper, 6.99% 2051 yield increased by 3 bps to 7.85%.

The spread of 10-year bond over 5-year bond came down to 20 bps from 22 bps in the previous week. The 15-year benchmark over 10-year benchmark spread came down to 13 bps from 14 bps while the 30-year benchmark over 10-year benchmark spread remained steady at 30 bps on a weekly basis.

10-year SDL auction cut-off rose to 7.95% from 7.89% in previous week. However, spread decreased to 36 bps from 38 bps as benchmark yield rose to 7.59% from 7.51% during same period.

On a weekly basis, 1-year OIS yield rose by 23 bp to 6.47% while the 5-year OIS yield rose by 11 bps to 7.26%.

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