(Oct 7): India’s bond bulls are optimistic that the central bank will ease its hawkish monetary policy stance, potentially setting the stage for the next leg of a rally. 

While interest-rate swaps are pricing a rate cut only in December, traders are girding for a possible shift in the Reserve Bank of India’s (RBI) stance to neutral on Wednesday. They are also closely watching for any dovish signals in the authority’s commentary.

“We are definitely expecting a softer language from the RBI, even as the possibility of a stance change remains evenly balanced,” said Pankaj Pathak, a fixed-income manager at Quantum Asset Management Co Pvt Ltd. “That can be the trigger for a down move in yields.”

The 10-year yield, down 34 basis points this year to 6.83%, may fall further to 6.25% by March, according to Nomura Holdings Inc, with IDFC First Bank predicting a drop to 6.50%. A continued decline may lower borrowing costs for the government, which aim to reduce the budget deficit to a five-year low this fiscal year. 

Indian bonds are among Asia’s best performers this year, thanks to over US$16 billion (RM68.51 billion) of foreign inflows spurred by the inclusion into JPMorgan Chase & Co’s emerging-market index. 

Bonds have also rallied on bets that slowing economic growth and the 50-basis point rate cut by the US Federal Reserve last month may prompt the RBI to follow. Headline inflation staying below the RBI’s 4% target for two straight months has supported expectations for a dovish policy change.

“The October meeting will be the first MPC meeting this year where at least part of the market expects a rate cut, or a change in stance,” Barclays Plc economists, including Shreya Sodhani, wrote in a note. That “makes it a relatively exciting meeting,” she said. 

Still, the RBI may proceed with caution amid a resurgence in tensions in the Middle East, which pushed up benchmark yields to near a one-month high on Friday. Governor Shaktikanta Das reminded markets in September that he was in no hurry to reduce borrowing costs.

The RBI’s newly appointed monetary-policy panel is expected to keep the policy rate unchanged at 6.50% for the 10th straight meeting, according to the majority in a Bloomberg survey of economists. 

Analysts are still rooting for a dovish-policy tilt. Rate swaps are pricing in about 70 basis points of rate cuts over the next 12 months, with a fair chance of a reduction in December, according to Nomura. 

“The next leg of the bond rally can stem from either a dovishness in the monetary policy, and/or stronger foreign inflows,” said Nitin Agarwal, head of India trading at Australia and New Zealand Banking Group Ltd. If investors gain more confidence about global soft landing, it will spur more inflows into emerging markets, including India, he said. 

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