Fund outflows flag more bond pain amid worst BRIC losses

Local investors are exiting Indian debt funds at the fastest pace since September, a sign of more losses ahead for bonds that are the worst performers among the largest emerging markets this quarter. Fixed-income funds saw an outflow Rs 2500 crore ($392 million) in April, a third straight month of withdrawals, data from Association of Mutual Funds in India (Amfi) show. Investors left just in time to avoid a global bond market rout that saw the benchmark 10-year rupee sovereign yields surge 19 basis points in the last two weeks.

Birla Sun Life Asset Management Co and Tata Asset Management say returns could worsen further as a rebound in oil prices and a drop in the rupee limit the scope for the Reserve Bank of India (RBI) to cut interest rates. Investors in Indian government notes lost 0.6 per cent this quarter, compared with returns of 7.1 per cent in Russia, four per cent in Brazil and 1.4 per cent in China securities, JPMorgan Chase & Co indexes show.
 

"We may not see the kind of returns expected earlier," said A Balasubramanian, chief executive officer at Birla Sun Life in Mumbai. "Oil's reversal can be a source of volatility as far as inflation is concerned. The rates trajectory won't be the same and markets will adjust to the new indicators on oil and the monsoon."

The rupee's drop past the 64 a dollar level on Thursday reduces chances of an interest-rate cut at the central bank's June 2 meeting, according to Bank of America Merrill Lynch.

'Equity-like returns'
The 10-year sovereign yield jumped 13 basis points, or 0.13 percentage point, in April, the most since September 2013, as a 21 per cent rally in Brent crude and the weather department's forecast of below-normal monsoon rains reignited concern about consumer inflation, which eased to 5.17 per cent in March.

Brent prices are key to India's inflation outlook as the nation imports about 80 per cent of its oil and the commodity's 49 per cent plunge in the 12 months through March helped slow price gains, paving the way for two interest-rate cuts in 2015. Fixed-income funds took in Rs 12,200 crore in January, Amfi data show. That's when RBI Governor Raghuram Rajan lowered benchmark borrowing costs for the first time since May 2013. Investors withdrew Rs 11,600 crore in the next three months.

"We saw a lot of traction into the income funds around January as distributors and analysts sold them as 'get equity- like returns in debt,' which was too good to be true but some people did bite into the story," Killol Pandya, a senior debt- fund manager at LIC Nomura Mutual Fund Asset Management Co in Mumbai, said in a May 7 phone interview. "Expectations were that a lot of rate cuts will happen and they'll be front-loaded, but that whole sentiment has seen a reversal."

Monsoon rains
Inflows into so-called gilt funds, which invest solely in sovereign debt, slowed to Rs 164 crore in April, the smallest since September, according to Amfi data.

The June-September monsoon season is crucial for Asia's third-largest economy as agriculture accounts for about 15 per cent of its gross domestic product. Insufficient rains can potentially hurt crop output and stoke food costs.

RBI will consider factors including the "likely strength" of the monsoon rains before deciding on future actions, Governor Rajan said in the latest policy statement on April 7 when he kept the benchmark repurchase rate unchanged.

"There's a chance that the June rate cut gets pushed back because of the rebound in oil prices and the rise in global bond yields," Rajeev Radhakrishnan, Mumbai-based head of fixed income at SBI Funds Management Pvt, a unit of India's largest lender, said in a May 8 phone interview. "The sudden drop in the rupee will also impact monetary policy. To that extent, investors will position themselves."

'Damage done'
LIC Nomura's Pandya said he doesn't expect large outflows from debt funds because interest rates are still headed lower, even if less than earlier expected.

"The damage is already done," Pandya said. "Investors who are risk averse and expect a reasonable rate of return will continue to stay invested in these funds. There is money to be made, just maybe a bit less than before."

Swap traders are paring bets for easing. The cost to lock in borrowing costs for a year climbed nine basis points last month, data compiled by Bloomberg show.

The rupee slumped 1.5 per cent in April in Asia's worst performance as foreign inflows into Indian bonds and stocks slowed from previous months. Overseas funds sold a net $494 million of rupee-denominated debt on May 7, the biggest single- day outflow since January 2014, amid a global selloff.

"The fixed-income segment may not look the same as it did a quarter back," said Arvind Sethi, the Mumbai-based chief executive officer at Tata Asset, which manages Rs 27,000 crore. "Some of the optimism built in the yields will correct from here on."