RBI Monetary Policy Update - RBI maintains the neutral stance with cautious outlook on inflation and growth

Transcription

1 RBI Monetary Policy Update - RBI maintains the neutral stance with cautious outlook on inflation and growth In the latest policy meeting, the RBI kept the key policy rate unchanged at 6% and maintained the neutral stance of monetary policy - in line with the consensus expectations. Four out of five monetary committee members voted in favour of no change in policy rate, while one member voted in favour of cut in the key policy rate. Rationale for Action: Revised marginally upward trajectory of headline inflation projections (including the HRA impact) in the range of 4.3%-4.7% for 2H FY18 including HRA effect of upto 35 bps (Previous projection: 4.2%-4.6%). Retained economic growth numbers at 6.7% for FY18. Policy Stance: Policy stance continues to be neutral and RBI to continue to monitor incoming data closely. RBI continues to remain focused on keeping headline inflation close to 4% on durable basis.

2 Our View: RBI, as expected, kept Neutral stance in today s policy with further rate action to be data dependent. On the inflation front, it marginally increased the headline inflation projections on firming up of core inflation, HRA impact by various state governments and high oil prices. Further it highlighted upside risks from firming up of household inflation expectations, fiscal slippages, rising input cost and global financial instability. However, it believed that seasonal moderation in vegetables prices in winter and shifting of large number of goods and services in lower GST tax bracket to provide downside risk to evolving inflation trajectory. We expect headline inflation to rise in the near future but will remain within RBIs trajectory of 4.3% 4.7% by this fiscal year end. On the growth front, it acknowledged the output gap, but expects the recent pick-up in credit along with recapitalisation of PSU banks and faster resolution of NPAs through IBC to provide tailwinds to economic growth. RBI has projected Indian economy to grow at 7% in 3Q FY18 and 7.8% in 4Q FY18 which we expect to undershoot their projections. We clearly expect some downside risk to growth. On the Liquidity front, the RBI re-iterated its stance on Neutral liquidity and though the system liquidity is surplus currently, the RBI expects system to be in marginal surplus by March 2018 and tighten in 1QFY18. Thus we rule out further OMO sales for this fiscal year. Keeping the above factors in mind, we believe that RBI has kept door open for future rate cuts and the focus may now shift to growth as it becomes increasingly confident of achieving its inflation target. Thus growth concerns over next 3 6 months may decide RBIs rate actions. A clear trajectory for bond yields will emerge post the fiscal clarity for FY 18 & post the FY19 Union Budget. With the current RBIs liquidity stance and relatively higher absolute yields, we expect Liquidity trades to dominate Macros trades from medium term perspective. Carry will be the biggest driver for returns in the current high interest rate regime. We clearly expect spread assets to outperform going ahead & curve to bull steepen as carry remains attractive at the shorter end of the yield curve. Also roll down benefits will add to the returns on steeper yield curves. We also expect bond yields to ease from near term (3-6 months ) perspective as market starts pricing in rate cut subject to upcoming GDP prints, Inflation prints & demand supply to take precedence in the short term. We do not foresee any major swings in yields unless commodity prices rally significantly further or US yields jumps materially. Fund Strategy: With continue to expect Liquidity trades to dominate Macro trades in the short term and hence curve to bull steepen and carry to be the biggest driver of returns. Thus, Ultra Short Term Funds & Short term bond funds (Reliance Short term Fund & Reliance Banking and PSU Debt Fund) are best positioned to gain from our above view. Across our long duration funds (Reliance Dynamic Bond Fund, Reliance Income Fund & Reliance Gilt Securities Fund) we will continue with the current strategy of Carry ( 6 9 year Gsecs, 10yr high grade Corporate bonds) and liquid

3 Gsecs (primarily belly of the curve). With expectation of further rate cuts subject to upcoming GDP prints, tactical duration plays will be captured through these long duration funds. In Reliance Dynamic Bond Fund, we have modified our strategy by reducing duration from years to years by shifting out from longer maturity Gsecs to shorter maturity GSecs & private AAA corporate bonds & will consider giving allocation to SDLs at appropriate spreads going ahead, thereby targeting an optimal mix of accruals and medium duration. We recommend Accrual funds (Reliance Regular Savings Debt & Reliance Corporate Bond Fund) over 3 years investment horizon. These funds have potential to benefit from high carry; Credit spread compression due to balance sheet improvements & Credit migration and roll down benefits on steeper yield curve.

4 Annexure: Highlights of the Monetary Policy: Inflation Outlook: RBI has marginally revised upward headline CPI projection for 2H FY18 in the range of 4.3%-4.7%, with risks evenly balanced. This increase is on the back of 1) Firming up of core inflation to continue in near term; 2) Firming up of international crude prices; 3) While the HRA impact by the Central Government will peak in Dec 2017, the staggered impact of HRA increases by various state governments and second order effects might push up housing inflation in In such scenario, any adverse supply shock due to geo-political developments could push up prices further. Despite upward revision in CPI number, the fan chart of RBI (shown below) incorporating the inflation trajectory over the period (includes the first round impact of HRA) remain more or less similar to October chart. Upside risk to Inflation outlook: High food and fuel prices, along with firming up of inflation expectations of households. Rising input cost conditions might lead to higher risk of pass-through to retail prices in near term. Fiscal slippage due to implementation of farm loan waivers by select states, partial roll-back of excise duty and VAT of petroleum products and decrease in revenue due to reduction in GST rates fir several goods and services. Global financial instability due to monetary policy normalisation in developed countries and fiscal expansion in US. Downside risk to Inflation outlook: Seasonal moderation in vegetables in winter and downward bias of pulses prices to keep food inflation benign. Shifting large number of the retails goods and services in lower GST tax brackets to help in lowering retail prices.

5 Economic Growth Outlook: RBI retained the GVA projection to 6.7% y/y for FY18, with risks evenly balanced. While the output gap continues to be negative, RBI has acknowledged in the concall that it is narrowing. Upside risk to Growth outlook Recent pick-up in credit growth aided by recapitalization of PSU banks to improve credit flows further. Further, bank recapitalisation along with insolvency and bankruptcy code (IBC) will help in reducing the cost of domestic borrowings through improved transmission by the banks, thereby aiding economic growth. RBI s survey indicates that the growth in services and infrastructure sector to improve in 4Q FY18. Downside risk to Growth outlook Lower agricultural production due to shortfall in kharif production and rabi sowing. Higher oil prices to impact margins of firms and GVA growth. Common Source: Bloomberg, RMF Internal Research, RBI PRODUCT LABEL- Reliance Dynamic Bond Fund Income over long term Investment in debt and money market instruments PRODUCT LABEL- Reliance Gilt Securities Fund Income over long term Investment in Government Securities PRODUCT LABEL Reliance Income Fund Income over long term Investment in debt and money market instruments

6 PRODUCT LABEL Reliance Regular Savings Fund Debt Option Income over medium term Investment predominantly in debt instruments having maturity of more than 1 year and money market instruments PRODUCT LABEL Reliance Short Term Fund Income over short term Investments in debt and money market instruments with the scheme would have maximum weighted average duration between years PRODUCT LABEL Reliance Banking & PSU Debt Fund Income over short to medium term Investments in debt and money market instruments of various maturities, consisting predominantly of securities issued by Banks, Public Sector undertakings & Public Financial Institutions PRODUCT LABEL- Reliance Corporate Bond Fund Income over medium term Investment predominantly in corporate bonds of various maturities and across ratings that would include all debt securities issued by entities such as Banks, Public Sector undertakings, Municipal Corporations, bodies corporate, companies, etc

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