Barclays says bond sell-off overdone, good time to buy

Says it expects RBI to eventually lower the repo rate by another 50 bps by mid-2013

Terming the current bond yields as reflective of excessive cautiousness by investors, a Barclays report today said the recent sell-off provides an opportunity to buy with a target of 7.40% in 10-year benchmark during the first half of the next fiscal.

"We think current bond yields are pricing in excessive cautiousness (10-year yield at policy rate plus 44 basis points), and we see the recent sell-off as an opportunity to buy, targeting 7.40% during H1 of FY14," the report said.

In bonds, when price of the instrument goes up, yield goes down and vice versa.

The 10-year benchmark yield closed at 7.99% on Tuesday, which had fallen to 7.80% in the last week of February in the hope of a rate cut by the RBI on March 19.

Referring to the rise in bond yield after the RBI mid-term policy review, wherein it had cut repo rate by an expected 25 bps, the report said the market interpretation of the RBI statement as hawkish with concerns raised on the resumption of bond supplies in April, are overdone.

"We think both the concerns are overdone. We read the policy statement as balanced, and in an environment of weak growth and softer core inflation, we expect the RBI to eventually lower the repo rate by another 50 bps by mid-2013," the report said, adding despite resumption of bond issuances in April, there will be enough demand to match supply.

The report, however, said that factors like possible persistence of high inflation, large current account deficit (which is slated to cross 6% of GDP in the third quarter), political uncertainty along with any regulatory decision to reduce the held-to-maturity (HTM) bondholding of banks would pose risk to these estimates.

Referring to the estimate of net supply of bonds, the report said while net supply of Central and state governments bonds would be Rs 3.3 lakh crore in first half of FY14, demand from domestic and international institutional investors is likely to be around Rs 3.6 lakh crore.

"We expect banks to absorb about Rs 1.8 lakh crore of bonds in H1...And demand from insurance companies, mutual funds and pension funds will be another Rs 85,000 crore," it said.

"Foreign demand may pick up, but we assume the same pace as in recent months- Rs 22,000 crore in demand," it added.

Last week, the government announced rationalisation of FII investment in both corporate and government bonds by doing away with sub-limits in each of the segment in a bid to attract more foreign inflows to fund Current Account deficit.