Year in Review: In uncertain times, 2019 an eventful year for bonds, rupee

The year 2019 was an interesting one where global, as well as domestic factors, exerted an equal pull to determine the value of the asset classes. Towards the end, the Indian central bank introduced a special open market operations (OMO) to bring down bond yields.
 
But this was not the only new tool that the central bank brought out from its arsenal. In March, it had introduced currency swaps as part of its new liquidity tool. The central bank swapped $10 billion with banks, for a three-year premia.
 
The rupee started at 69.44 a dollar, and on December 27, closed at 71.32 a dollar. For much of the year, the US-China trade tensions held the emerging market currencies on tenterhooks, rupee being no exception. The tensions are far from over now, but it is nowhere near as heightened as it was in the first half of the calendar when both the countries were imposing retaliatory tariffs on each other.
 
The 10-year bond yields, started the year at 7.418 per cent, and ended at around 6.5. The yields would have closed at around 6.75 per cent, but for the two special OMO announcements.
 
This was also the period when yield curve inverted in the US, which send a shockwave on concerns over an impending recession globally. The Indian bonds too responded to that movement, but was capped by very aggressive rate cuts by the central bank. Since February, the Reserve Bank of India (RBI) reduced rates by 135 basis points, before halting in the December policy. The 10-year bond yields fell about 90 basis points in response. The short-term yields, however, fell 137 basis points, transmitting the entire rate cut. This created a wide spread difference in the yield curve, which the central bank tried to rectify through special OMOs.
 
The Financial Stability Report (FSR) released on Friday points out that negative yields globally is no reason to cheer, as that is increasing leverage globally, especially in emerging markets.
 
“As US monetary easing takes a breather, the exchange rate outlook for EM (emerging markets) currencies will be a large determinant of EM local currency bond flows notwithstanding a generally favourable local currency interest rate environment,” the FSR said.
 
The coming year could be interesting too. The central bank is fast losing out space for monetary easing at a time when growth has floundered.
 
“The outlook for the coming year remains challenging. Economic growth expected to show a modest rebound, while inflation, notably core inflation, is expected to stabilise or bottom out around current levels. The scope for further monetary policy easing appears quite limited,” said Badrish Kulhalli, head of fixed income at HDFC Life Insurance.
 
Between January and March, the markets expect extra borrowing of at least Rs 50,000 crore by the government.
 
“It is expected that the bond market will perform better in next year with RBI support by way of easier monetary policy to support economic growth. But fiscal worry will limit the gains,” said Devendra Dash, head of ALM at AU Small Finance Bank.
 
The rupee was impacted by global events in 2019, and that should continue in 2020. The rupee is directly related to portfolio flows, and even as the RBI has accumulated reserves of $455 billion due to healthy portfolio flows, the reserves can come down if there is an outflow.
 
“Going ahead global factors will dominate again however the outcome will be different in calendar 2020. US protectionist policies, uncertainty over US Presidential election will continue to spread fear among the trade circle along with the Fed’s less dovish monetary policy outlook,” said Rahul Gupta, Head of Research-Currency, Emkay Global Financial Services.

 
“On the local front, worries over slowing growth, rising inflation and fiscal slippage will prevent rupee from appreciating. On a broader perspective, we expect USD/INR to remain within 69-74 amid various global and domestic idiosyncrasies,” Gupta said.