-Suyash Choudhary, CIO-Fixed Income, Bandhan AMC

The MPC kept policy rates on hold and left stance unchanged. This was almost wholly as expected, with the market focus instead on the assessment of RBI / MPC given the developments in West Asia. Though there is some relief on the geo-political front at the time of writing, the policy thinking with regard to the commodity shock was nevertheless looked forward to.

The Governor highlighted the following channels of impact:

1. Elevated crude oil prices could increase imported inflation and widen the current account deficit.
2. Disruptions in energy markets, fertilisers and other commodities may adversely impact industry, agriculture and services, reducing domestic output.
3. Heightened uncertainty, increased risk aversion and safe haven demand could impact domestic liquidity conditions, economic activity, consumption and investment.
4. Weaker global growth prospects may dampen external demand and reduce remittance flows.
5. Adverse spillovers from global financial markets could tighten domestic financial conditions and raise the cost of borrowing.

Importantly, the Governor mentioned: “The initial supply shock can potentially transform into a demand shock over the medium term if the restoration of supply chains is delayed”.

Basis net assessment, and on the assumption that the adverse impact of the conflict would remain contained in the near term, real GDP growth for 2026-27 is projected at 6.9 per cent, with Q1 at 6.8 per cent; Q2 at 6.7 per cent; Q3 at 7.0 per cent; and Q4 at 7.2 per cent. Downside risks emanate from conflict escalation in intensity and / or durability, apart from weather related events.

CPI inflation for 2026-27 is projected to be at 4.6 per cent with Q1 at 4.0 per cent; Q2 at 4.4 per cent; Q3 at 5.2 per cent; and Q4 at 4.7 per cent. Upside risks are noted from the same factors that pose downside risks to growth. Importantly, RBI has also unveiled a core inflation projection for FY 27. This is pegged at 4.4% and the MPC notes that excluding precious metals it is even lower, indicating that underlying inflation pressures are expected to remain contained.

Our general summary assessment from the policy is as follows:

1. The starting point on our macros - growth, inflation, and current account - is considered as being quite resilient and be able to absorb short term shocks.

1. The geopolitical shock is being viewed as impacting both growth and inflation. This is consistent with the framework we had flagged as well in a recent note and constituted a key reason why we had decided to cover our duration underweight positions (please refer: “Shifting Concerns: A Macro And Bond Update”, dated 6th April).

1. Continuing from above point, the Governor’s assessment that a persistent supply shock can turn into a demand one, combined with the general MPC assessment of underlying inflationary pressures remaining contained, doesn’t point to any imminent threat of a rate hike.

1. The above is further confirmed by Governor’s comments during the press conference around real policy rates being quite high currently and that it is still quite possible that lower rates continue for a long time (these may not be exact comments but our impressions of them).

Takeaways

The RBI / MPC assessment today essentially challenges any market idea that a policy rate reversal is imminent. To clarify, with a cease fire announced on the war as we write this, the risk of any immediate change to policy was already receding. However, the assessment revealed today, and as analysed above, suggests that the bar for any change in policy direction was anyway quite high. Bond markets have breathed a sigh of relief with the combination of the two events today (ceasefire and monetary policy). The order of move lower, as one would expect, is OIS rates, followed by government bonds, followed by corporate bonds and money market rates. The first of these was pricing the most hikes, while the last will probably ease more gradually over time with strong system liquidity and progressively less tighter banks’ credit-deposit ratio (the latter reflecting both seasonal credit slowdown as well as possible impact on credit growth from a general growth slowdown).

With respect to the shape of yield curves, the government bond curve has started steepening again, reflecting relief on any sort of policy rate hike expectations. This is logical for the time being but has limits to how far it can go. This is because one should expect some rate hike(s) towards the latter part of the year, given that the average inflation rate will move up considerably almost anyway one cuts it. So, while it is appropriate to push back on timing, it is perhaps yet imprudent to wish away any policy rate normalisation altogether. As noted before, the world is probably still at higher neutral rates and India still has external account pressures to contend with. Thus, one should push against extreme expectations on both sides: the idea of near-term and rapid rate hikes or the idea of no hikes at all.

We are no longer duration underweight across a host of our funds. We continue to like the front end of the corporate curve (up to 3 – 4 years maturities) since this curve remains relatively flat. We would lean against much steepening of the SLR curve and have therefore added 14 and 40 years on much better valuations here, and on the expectation of eventual re-flattening of the SLR curve.  We are no longer actively using OIS for hedging, considering that these were no longer effective given the amount of rate hikes they were pricing. As always, this is our thinking as of this date, and the same can change going forward.