Don't expect another rate cut this year

The market's direction for the next three to six months will be driven by the post-policy events. The current long-term rates reflect the rate cut and a stable global outlook. For the short-term or overnight market, we have seen the repo rate decline, the CBLO (collateralised borrowing and lending obligation) and call money rates hovering within a band of 15-20 basis points. So, a change has already taken place in the short term, where we have seen decline in short-term yields and compression of spreads. The rates for commercial papers and bonds for two to three months and treasury bill rates are already reflecting the twin measures on the rate cut and liquidity enhancement. That is a big trigger for short-term rates.

At the long end, further moves will be driven by two events. One is the expected policy action from the US Federal Reserve as we move into June, as the current market consensus is that we could see a rate hike. The second factor is from May-end, we will see early forecasts for the monsoon. This will have an important bearing on how the inflation trajectory moves forward. Ten-year government securities (G-Sec) might remain range-bound within a narrower band compared to that of the previous quarter. The long-term rates would, hence, react more to technicals like open market operations (OMOs), state government issuances and the Ujjwal Discom Assurance Yojana (UDAY) bonds in terms of supply.

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So, till we have some clarity from the Fed on its outlook and rate action(s), the 10-year yield should not breach the 7.53 per cent level. In the lower end, the rates are not likely to fall below 7.40 per cent. Aggressive OMOs purchases from the Reserve Bank of India (RBI) could help rates, could be, breach this range at the lower end. However, we expect there could be some volatility nearer to the Fed action. The market does not expect more than one more rate increase, possibly in June. Any indication to the contrary could send the 10-year rates to 7.60-7.70 per cent level. Another year of sub-par monsoons could also drive rates northward, as this will pull up people's expectation on inflation, mainly food inflation.

Looking at all the factors at the moment, I do not foresee another rate cut from the RBI this year. The focus has now shifted to influencing transmission through changing the liquidity paradigm, instead of emphasising on more rate cuts. This means that instead of sticking to the rate cuts, RBI is trying to move liquidity into neutral zone and influence transmission of lower rates in the system. If this happens, the volatility in the overnight rates and banks behaviour towards lowering lending rates will definitely improve. This with the marginal cost-based lending rate regime should help bring about transmission of the 150 bps of rate cuts more effectively.

The author is group president, and head- fixed income, UTI Mutual Fund