RBI G-SAP a mishap for bond bears; How RBI’s Rs 1 lakh cr tool helps prevent yields sag: EXPLAINED

By Lakshmi Iyer

The first Monetary Policy Committee (MPC) meeting of the new fiscal year was in line with expectations on all key parameters. The MPC members voted unanimously to keep rates on hold, in line with the market and our expectations. It also reiterated its accommodative stance and moved from time-based guidance to more state-based guidance – this is a welcome move. The Committee noted that it will “continue with the accommodative stance as long as necessary to sustain growth on a durable basis and continue to mitigate the impact of COVID-19 on the economy, while ensuring that inflation remains within the target going forward”.

What really stole the show was the announcement of G-SAP (secondary market G-Sec acquisition program). Under this program, the Reserve Bank of India (RBI) will commit upfront to a specific amount of purchase of government securities, in an attempt to provide more certainty to bond markets. For current quarter Q1 FY 2022, it has announced G-SAP of Rs 1 lakh crore. This is an important development given that markets were gripped with heightened anxiety with respect to the size of government bond supply.

The RBI also clarified that the G-SAP will run alongside other instruments of the RBI, ie, longer-term repo/reverse repo auctions, forex operations, operation twist, and other OMOs (open market operations). The RBI also announced its decision to conduct VRRR (variable rate reverse repo auctions) auctions of longer tenor (earlier 14 days), as a liquidity management operation. While G-SAP helps put a lid on long-term bond yields, we could see some small rise in short term yields to the long tenor VRRR (details awaited). Thus we could see some flattening of the yield curve from the current levels.

Way forward

Market inhibitions with regard to the mammoth government borrowing program for now will be put to rest. Today’s measures do not rule out volatility in bond markets, hence focusing on building a high grade portfolio bucketed as per one’s horizon could well be a way forward for fixed income investors. Switching out of short/long duration funds into overnight / liquid funds could just be buying peace of mind in the form of reduced volatility, but may not necessarily lead to a better investment outcome.

The current yield curve steepness (which has priced in quite a few negatives) may not warrant such a move. Any change in policy direction would be gradual, whenever it is effected and we expect the RBI to provide adequate signals to the market regarding the same and ensure orderly evolution of the yield curve. Monitoring global cues are equally important as we have seen rise in commodity prices stoke fear of inflation. Crude oil is a key commodity which can steer India’s inflation fortunes quite meaningfully either way.

Lakshmi Iyer is CIO-Debt & Head-Products at Kotak Mahindra Asset Management Company. These are the author’s own views.