DSP's gamble to go long on bonds pays off after RBI's Operation Twist

An asset manager’s decision to load up on long India sovereign bonds at a time when the government’s record debt sales were scaring others, is turning prescient.
 
DSP Investment Managers, which manages about Rs 77,600 crore ($10.8 billion), had been betting since August that longer yields would decline.
 
The strategy paid off when the Reserve Bank of India surprised investors by embracing a US Fed-style Operation Twist, buying long-end debt and selling short-end bonds.
 
“Recent measures by the RBI largely complement our view of demand-supply being addressed to bring down the yields,” Saurabh Bhatia, head (fixed income) at DSP, said in an interview in Mumbai.
 
The RBI resorted to the unprecedented bond auctions after a series of rate cuts failed to stop a steepening in the yield curve. Bhatia was cued to the possibility that the central bank needed to do more as spreads between policy rates and other borrowing costs remained wide.
 
The 10-year bond yield has dropped more than 30 bps since mid-December as the RBI conducted two operations. It will buy another Rs 10,000 crore worth of bonds — maturing between 2024 and 2029 — on January 6, while selling a similar amount of shorter-term debt, it said on Thursday.
 
DSP Government Securities Fund returned 12.8 per cent in the past year, among the top performers in the category, shows Value Research data.
 
Desperate banks
 

Bhatia’s preference for longer bonds was also driven by the expectation that banks, flushed with liquidity, would have to buy more bonds to park their money, given the lackluster demand for loans.
 
The proportion of deposits that lenders keep in government securities rose to 28.6 per cent by December — above the regulatory requirement of 18.5 per cent — as loan growth slowed, shows RBI data.
 
Meanwhile, DSP’s decision to overlook rate cuts as a driver for yields was vindicated as the RBI held the policy rate steady since October.
 
Rising inflation has pushed back easing expectations to at least April. The fiscal worries in the Indian bond market that made DSP’s positioning stand out still looms large.
 
By all indications, the government is set to miss its fiscal deficit target of 3.3 per cent of gross domestic product for the year ending March 31. Bhatia flags this risk but sees limited impact from a slight widening of the deficit gap.
 
The DSP Government Securities Fund has nearly
 
90 per cent of its investments in bonds maturing between 2029 and 2033, while DSP Strategic Bond Fund has about 82 per cent of its debt in similar maturity papers as of November 30, data provided by the company shows.