Saturday, March 20, 2010

Debt investment and Rate hike by RBI

Bond yields are currently hovering at 7.8% mark and the expectations of yields touching the 8% mark are very high. Some reasons supporting this upward movement are:

1.) Government is soon expected to announce its borrowing plans for the year.
2.) Inflation has touched the 9% mark and is zooming towards the double digit figures. Fuel prices have increased after this budget adding to inflation.
3.) Recently (19/03/2010) the Reserve Bank has hiked the Repo and Reverse repo rates by 25 bps to 3.5% and 5% citing inflationary concerns. Economists are expecting a further hike by the Central Bank to contain Inlfation .
This brings good options for investors to shore up their Debt portfolio. Foreign investors have already doubled their holdings in Indian debt market on account of the increasing yields .

Some advisers feel that the hike is not a long term phenomenon. Inflation is expected to move downwards within a range of 6 – 7% within the next 1 year . Lowering of Inflation is expected if the monsoon remains good and government is able to address the supply side concerns. This shall set the stage for rates to come down thus lowering the yields. Hence the advisors are suggesting the investors to shift some part of their portfolio to Debt funds with maturity ranging between 1 to 2 years. This is with the expectation of rates to go down thus raising the prices and hence the NAV. Investors thus may benefit by redeeming a higher amount on their investments.

However looking at the spiraling inflation addressing it is one of the prime concerns of RBI and therefore the market is expecting another rate hike by RBI in April to tackle inflationary pressure. Thus any downward movement in interest rates seems less likely within the next one year if the inflation doesn’t come down. Rate hike might also lead to Banks raising their interest rates for lending. This however may not be an immediate step as Banks also would like to wait and watch before taking a call . And with sufficient liquidity in the market the hike is not expected to have a significant impact on the growth scenario. Stock Market is expected to react on this rate hike with a downward movement thus driving investors towards shifting some of their portfolio into debt. But analysts predict that this should not impact the markets in the long term .
Hence investors can structure their debt portfolio by Investment in Short term debt funds as it clearly seems to be a better bet till the time a clear picture emerges on inflation and interest rates. Longer term debt funds will be suitable once the interest rate reach its peak and is expected to come down in the near future.

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