economy and markets

Economy and Markets

July 2021

COVID and ECONOMIC ACTIVITY

COVID situation improved in India in the month of June’21

Source: CEIC, SBIMF Research; NB: Data as of 28th June 2021

Daily new cases are now 89% down from the highs seenduring the 1st week of May

Positivity rate has dropped to 2.6% vs. peak of 27%,reflective of easing of COVID-19 stress in the country

Source: Mint, SBIMF Research; NB: Data as of 28th June 2021 in the Map

Risk of Delta plus variant

• Even as COVID infection rates have moderated, there are some risks of a re-surge.

• Both medical experts and policy makers in India are concerned about risks of resurge in COVID-19 cases in coming weeks,which they term as third wave. India has seen 50 new cases of this variant as of end June’21

• Faster progress on vaccination is an immediate need to inhibit transmission and mutation of the virus.

Map as of 28th June from Mint

Vaccination picks up in June’21 in India

Source: CEIC, SBIMF Research

Indian vaccination drive picks up pace in June (3.8 million doses perday vs. 1.8 million doses per day in May)

• The daily vaccination rate stood at 3.8 million doses/ day in June vs. 1.8 million doses per day in May.,

• There were select days post 21st June when the daily vaccination rate stood at 5-8 million doses per day.

• The pace of vaccination is likely to improve significantly in coming months

Economy activity bottoms out in May, broad based improvement in June

Source: CMIE Economic Outlook, SBIMF Research; NB: Weekly economic activity index is constituted based on Employmentsituation, toll collections, railway freight, Mandi Arrivals, Mobility data, Vehicle registerations, electricity consumption,credit/deposit ratio and E-way GST bills. Broad economic index does not include external demand and government spending.

• Economic impact was less severe during the second wave vs. the first wave. Our broad economic activity index fell by nearly20% in May’21 from its peak levels in March’21 compared with the 35-40% fall during the peak of first wave lockdowns.

• There was weaker correlation between mobility and economic activity during second wave.

• Consumer demand both in the rural and urban segment was the weakest. A relatively better support was seen in the form ofgovernment spending and external demand.

Economic activity we ~20% below pre-COVID levels inMay’21

Nearly two third of activity decline has been retraced inJune’21

Household savings normalize, employment situation remains weak

Source: CMIE Economic Outlook, RBI, SBIMF Research

Employment situation has now been weak for 15 months ,still trending below pre- COVID levels.

Household savings normalize in Q3FY21

• Support from higher accumulated savings to revive consumption demand is relatively weaker in Indian case (as opposedto the developed markets).

• Low consumer sentiments, elevated household leverage along with increased expectations of 3rd COVID-19 wave hasfurther reduced the prospects for consumers to dissave and spent more.

Government is pushing towards capital expenditure

Source: Investec, SBIMF Research

• Government’s directive on infrastructure spending both from its own and PSUs balance sheet is healthy.

• PSUs have been aggressive on frontloading the capex. News flows suggest that 10% of annual capex target of PSUshave already been met in Apr-May 2021 vs. the earlier trend of 3-4%.

Infrastructure orders see healthy momentum, driven by centralgovernment capex orders

Positive outlook on the agriculture sector

Source: CMIE Economic Outlook, NFSM, SBIMF Research; NB: LPA is long period average (refers to the average monsoon rainfallduring 1961-2010 which is 88 cms),

Monsoon onset have been strong so far (with cumulativerainfall trending 16% above LPA uptil 27th June 2021)

Kharif sowing to gain momentum from July onwards;currently (-)22% y-o-y lower in 2021 vs. 2020

Crop (Area in lkh hectare)As of 25th June

% y-o-y2020 2021

Rice 34.62 36.15 4

Pulses 17.51 14.58 -17

Coarse cereals 41.55 34.28 -17

Oilseeds 36.65 23.64 -35

Sugarcane 49.85 50.16 1

Jute and Mesta 6.74 6.78 1

Cotton 71.69 37.14 -48

Total 258.61 202.73 -22

• Monsoon onset have been strong so far raising good prospects for kharif sowing and output.

• The fiscal measures announced post the second wave (in the form of higher fertilizer subsidy, meaningful rise in cereals’procurement, re-implementation of food distribution programme, rising global agricultural goods’ prices and agricultural exportsportend a favourable outlook for agri-oriented sectors.

Source: Bloomberg, SBIMF Research

Commodity prices surge has been benefiting commodity-oriented sectors

• Commodity oriented sectors continue to gain from rise in the commodity prices.

• Majority of the earnings upgrade can be seen in commodity-oriented sectors (such as metals and energy).

Commodity prices continue to stay elevated Recent rise is mostly led by higher energy prices

EQUITY MARKET

Global equity markets witnessed muted-pick up in June


Performance in June 2021 (US$ returns) Performance Year-to-Date (US$ returns)

• Global equities traded higher in June, with the US continuing to lead other developed markets . Within the emerging marketspace, Russia and Brazil saw maximum gains during the month.

• Optimism surrounding economic recovery led by swift pace of vaccination, relaxation of lockdown restrictions and depressedreal cost of borrowing keep the sentiment buoyant.

Indian equity markets delivered modest gains in June


Performance Year-to-Date (local currency returns) Performance in June 2021 (local currency returns)

• Indian equity markets registered modest gains in June 2021.

• Nifty and Sensex rose by only 1% each on a m-o-m basis in June 2021. Among sectors, IT (9.2%), Consumer durables (6.5%),healthcare (4.3%) delivered the highest returns during the month. Bankex, Power, Oil and Gas and metals delivered negativereturns.

• Down the capitalization curve, small cap delivered the highest returns (6.9%) followed by mid cap (3.6%) and large cap (1%).

• On YTD basis, Nifty and Sensex were up by 12.4% and 9.9% respectively. Metals delivered the highest returns (62.7%)followed by PSUs (31.6%) and power (33.6%)

4Q FY21 earnings: Both sales and profit rise

Source: MOSL, SBIMF Research

Nifty sales grew by 16% y-o-y in Q4FY21, after having de-grown for the last 6 quarters

Profit growth stayed strong

• Nifty sales grew by 16% y-o-y in Q4FY21 vs. 6 quarters of de-growth. The growth in Q4FY21 was partly helped by a weak base.

• EBITDA grew by 31% y-o-y in Q4FY21 vs. 15% y-o-y in the previous quarter.

• PAT grew significantly by 81% y-o-y in Q4FY21 vs. 22% in the previous quarter.

Source: Bloomberg, FactSet, SBIMF Research; NB: *data for communication services cannot be calculated due to negativenumber in the base year, Earnings Revision Index: 12 month forward estimate number of all the BSE 100 constituents as of thecurrent month-end &3 months back. Formula: number of companies with the upward change divided by the number ofconstituents

FY22 Earnings expectations have seen marginal moderation

Earnings Revision Index still robust; but have fallenmarginally from peak levels due to second COVID-19 wave

Sectors No. of Companies

EPS Change (%)

FY21 FY22 FY23

FY20-FY23

(CAGR)Nifty 25.5% 35.5% 16.6% 25.6%

Consumer Discretionary 7 57.5% 95.0% 33.4% 60.0%Materials 8 73.2% 106.5% -9.8% 47.7%Health Care 4 37.6% 25.0% 19.4% 27.1%Energy 5 52.6% 6.0% 21.9% 25.4%Financials 11 5.5% 34.5% 21.7% 20.0%IT 5 13.0% 14.9% 11.5% 13.1%Industrials 2 -13.4% 29.2% 24.8% 11.8%Utilities 3 18.8% 7.3% 8.4% 11.4%Consumer Staples 4 -4.9% 14.2% 13.8% 7.3%Communication 1 NA*

Sectoral breakup of NIFTY earnings outlook

Source: CMIE, Bloomberg, SBIMF Research; NB: Corporate profits based on a sample of 20,000 listed unlisted companies in CMIE

Earnings should continue to recover in FY22

Extremely low corporate profits to GDP makes a strongcase for mean reversion

Earnings recovery likely to be healthy in FY22

Valuations: Large caps expensive on conventional metrics


Sensex trailing PE ratio declined to 31.4 in June vs. 32 inMay

Earnings yield to bond yield spread near neutral

Valuations: Large caps expensive on conventional metrics (contd.)


Shiller earnings yield to bond yield spread near neutralShiller PE ratio rose to 30.9 in June vs. 30.7 in May

Source: Bloomberg, CMIE Economic Outlook, SBIMF Research; NB: FF stands for free float

Polarization reverses, still room for outperformance of broader markets

Market capitalization/GDP (%) improved to 108 in June vs.105 in May

Polarization reverses; still room for continuedoutperformance of broader markets

• Market polarization has reversed in line with our expectation, with broader markets outperforming the frontline large capindexes. There is still room for continued outperformance especially if corporate earnings and economic growth normalize.

.

Source: Bloomberg, FactSet, SBIMF Research; ESI = Earnings sentiment Index

Equity market sentiment: Suggests heightened optimism

The sentiment measure works as a contrarian indicator. After suggesting contrarian buy for many months, the indicatorhas been at the other extreme of heightened optimism over the past couple of months, even as there is slight moderationoff late. An overheated reading on this measure may cap near term upsides

Liquidity: Both FIIs and DIIs were net buyers in June’21

Source: Bloomberg, SBIMF Research;

FIIs invested higher amount in Indian equities in June(US$ 1.65 billion vs. US$ 0.75 billion in May)

DIIs buying picked up in June to US$ 0.9 billion vs. US$0.3 billion in May

FII participation in India better than other Emerging market

Source: Bloomberg, SBIMF Research; NB: Data on FII equity flows for China is available only for April 2021, and for Apr-May 2021 for Malaysia, Sri Lanka, Vietnam

India has been witnessing relatively higher equity inflow compared to other Emergingmarkets since COVID onset

FII Equity inflow (US$ million) 2020 Q12021 Q22021

Brazil (8,118) 2,351 6,774

India 23,373 7,326 908

Indonesia (3,220) 847 345

Turkey (4,373) (1,570) (138)

Sri Lanka (2,944) (706) (443)

Philippines (2,513) (947) (597)

Taiwan (15,605) (12,137) (967)

Thailand -8286.65 (987) (1,482)

South Africa (7,409) (788) (1,845)

Malaysia (61,907) (1,050) (3,407)

Vietnam (7,459) (9,986) (5,506)

Korea (20,082) (8,348) (8,688)

China 1,93,493 86,721 (30,502)

Equity Outlook


• Indian equities delivered modest returns in June supported by decline indaily COVID-19 infections and upbeat corporate earnings’ results. However,an unexpected rise in retail inflation and concerns surrounding re-surge inCOVID cases due to the more transmissible delta version of COVID-19 keptinvestors’ cautious.

• The growth in earnings has been quite remarkable in a year when theeconomy contracted by (-)7.3% on a real basis and (-)3% in nominal terms.Significant expansion in margins driven by cost efficiencies drove corporateprofits higher.

• Cost pressures may arise as operations resume in full swing and rawmaterial prices continue to see upward pressure. But, as growth normalizes,operating leverage benefits should kick in and support margins.

• Aggressive fiscal expansion in addition to super accommodative monetarypolicy in the West, most notably the US, should augur well for a reflation inthe global economy. For India, stronger balance sheets for banks, healthiercorporate balance sheets, leaner cost structures and reforms aroundformalization of the economy, corporate taxes, PLIs, GST, real estate, etc..augur well.

• We therefore continue to believe that we are in early stages of a newearnings cycle.

• In the near term, some equity market corrections cannot be ruled out owingto over-optimism in market sentiments (which works as contra indicator).

• We continue to see any tactical corrections as welcome opportunities to buyinto pro-economy assets and sectors.

Shiller earnings yield to bond yield spread nearneutral

FIXED INCOME MARKET

Global Bond Snapshot: Bond yields moderated in June 2021


• Global bond yields moderated in June’21 vs. May’21 across several major economies despite heightened concerns overinflation. Re-imposition of lockdowns across various geographies on concerns over the spread of a more transmissible variantof COVID-19 aided the fall in yields.

• US treasury yields declined by 13 bps in June on m-o-m basis despite the US Federal Reserve moving up their projectionsfor commencing interest rate hikes to 2023 from 2024. Fresh worries over new variant of COVID-19 dragged down the overallbond yields.

10 Year Gsec Yield (% mth end)

2020 end Apr-21 May-21 Jun-21 m-o-m change

(in bps)YTD change

(in bps)Developed market

US 0.91 1.63 1.59 1.47 -13 55Germany -0.57 -0.20 -0.19 -0.21 -2 36Italy 0.54 0.90 0.91 0.82 -9 28Japan 0.02 0.10 0.09 0.06 -3 4Spain 0.05 0.48 0.46 0.41 -5 37Switzerland -0.55 -0.20 -0.16 -0.22 -6 33UK 0.20 0.84 0.80 0.72 -8 52

Emerging Market Brazil 6.91 9.12 9.13 9.09 -4 218China 3.15 3.16 3.07 3.09 2 -5India 5.87 6.03 6.02 6.05 3 19Indonesia 5.86 6.44 6.41 6.57 16 70South Korea 1.72 2.13 2.18 2.10 -9 37Malaysia 2.65 3.15 3.24 3.29 5 63Russia 5.92 7.11 7.19 7.20 1 129Thailand 1.32 1.77 1.84 1.75 -9 43Turkey 12.90 18.49 18.60 17.38 -122 448Mexico 5.55 6.91 6.59 6.98 39 144Poland 1.24 1.71 1.87 1.62 -25 38South Africa 8.75 9.29 9.29 9.26 -2 51Colombia 5.39 6.66 6.66 6.66 0 128Hungary 2.08 2.74 2.91 2.83 -8 75

India Rates Snapshot: Yields rose across all the asset classes

Source: Bloomberg, PPAC, RBI, CEIC, SBIMF Research; NB: *Corporate bond rate is for AAA rated bonds, **Crude oil price is average $/barrel for the month and INR, remaining data are % month end, ^INR and Oil price changes are % change, GSAP-Government Securities Acquisition Programme

• The benchmark 10-year GSec yield rose by 3 bps in June vs. May. 3-year GSec rose by 54 bps and 3-year AAAcorporate bond rose by 18 bps.

• The rise in GSec yields was led by an unexpected surge in CPI inflation.

• Brent prices ended up 7% higher on m-o-m basis in June 2021 on improved outlook for worldwide oil demand as risingpace of vaccination help lift pandemic curbs.

^

2020 end Apr-21 May-21 Jun-21m-o-m (in bps)

YTD change (in bps)

Repo rate 4.00 4.00 4.00 4.00 0 0Reverse repo rate 3.35 3.35 3.35 3.35 0 01 Yr T-Bill 3.46 3.72 3.73 3.89 16 433M T-Bill 3.08 3.32 3.40 3.44 4 363 year GSec 4.46 4.85 4.70 5.24 54 775 year GSec 5.04 5.77 5.59 5.72 13 6810 year GSec 5.87 6.03 6.02 6.05 3 193 Yr Corp Bond* 4.69 4.82 5.22 5.40 18 715 Yr Corp Bond* 5.51 5.86 5.94 5.97 4 4710 Yr Corp Bond* 6.59 6.72 6.90 6.90 -1 30Overnight MIBOR Rate 3.51 3.43 3.39 3.36 -3 -1510 year SDL 6.58 6.80 6.81 6.92 11 34INR/USD 73.07 74.08 72.62 74.33 2 2Crude oil Indian Basket** 49.90 63.30 67.00 72.00 7 44

GSec, SDL and Corporate bond yields rose in June vs. May

Source: Bloomberg, RBI, SBIMF Research; NB: Dec 2020 had no auction for 25 and 30-year SDL, Yields shown in the corporate bond yield graphs are for AAA rated corporate bonds

G-sec yield inched up across all the tenures SDL yield rose across segments (barring the 5-year segment)

Corporate bond yields rose across tenures (barring the 10-year segment)

The US Federal Reserve turned a bit hawkish in June 2021


• US Federal Reserve expects two rate hikes in 2023 (modified in Jun’21 policy) vs. no rate hike until 2023 in the earlier policies.

• The US Treasury market is reflecting substantial changes in policy expectations. The treasury yield curve has flattened post the FOMC policy.

• The market-implied timing of interest rate hikes has come forward by three months, with the Treasury market now pricingthe first rate hike in December 2022.

Currency: USD appreciated in June


Rupee depreciated to Rs. 74.3/$ in June vs. Rs. 72.6/$ in MayDXY appreciated to 90.5 in June vs. 89.8 in May

• US dollar strengthened on the expectations of moderation in easy financial conditions. As such, EM currencies including Indian Rupee weakened.

Currency: Performance of Rupee in the middle of EM basket


Rupee depreciated marginally on YTD basisYen, Euro and Australian dollar depreciated againstdollar while Pound appreciated on YTD basis

Select EM Central Banks see unwinding of monetary accommodation

Source: Bloomberg, SBIMF Research; NB: Mexico’s rate hike is not visible in the graph as Mexico’s central bank had reduced the rates by 25 bps in Feb-21 which got reversed in June-21 Policy.

• Several emerging market central banks have embarked on unwinding of monetary accommodation on increasedinflationary concerns.

• Mexico, Brazil and Russia are among few economies that have raised interest rates.

• Select developed market central banks such as Canada and the UK have commenced on tapering its asset purchaseprogram.

Source : CMIE Economic outlook, SBIMF Research;

CPI soared in May, breaching the RBI’s upper tolerance threshold

CPI inflation rose sharply to 6.3% y-o-y in May vs. 4.2%in April, led by broad based increase across segments

Sharp sequential rise in clothing, footwear & non-transportrelated components pushed the core (ex-commodity) inflation

• Localised lockdowns across several states in May could have led to sharp increase in CPI inflation.

• The NSO noted that only 67-68% of price collection happened from markets in May vs. the 85-87% prices reported in April.The lower share of prices from markets could have created an upward bias in prices of several products.

• We expect CPI to be at 6% (vs. 5.2% earlier) in FY22. Rise in global commodity prices and supply-demand mismatch willkeep the headline prints elevated.

• Demand-led inflationary impulses continued to be absent as gauged from weak capacity utilization, credit growth andsubdued consumer spending. Indian fiscal spending construct is non-inflationary. All these factors combined are unlikely tostoke any inflationary pressures.

Source : CMIE Economic outlook, SBIMF Research; NB: WPI input and output prices is SBIMF’s own construct

Rising oil and commodity prices pushed wholesale prices to record high

WPI surged to a record high of 12.9% y-o-y in May, led byrising oil and commodity prices

Rise in input costs put pressure on further rise in theoutput prices

Policy rate Outlook: Policy normalization would be a long-drawn process

Source : Bloomberg, SBIMF Research; NB: *Home loan rate is as per the SBI bank median rate; WALR on fresh loans is uptil May-21, remaining indicators uptil June’21 end), GSAP: Government Securities Acquisition Programme

Policy rates on hold : 110 bps reduction in Repo rate and155bps in Reverse Repo since Mar 2020

Surplus banking sector liquidity has aided monetarytransmission

• RBI kept the policy rates (Repo: 4.00%, Reverse Repo: 3.35%and MSF rate : 4.25%), stance and liquidity managementdecisions unchanged.

• The growth expectations were lowered by 1% pt. to 9.5% (vs.10.5% in the previous policy) owing to impact of second waveof COVID-19 on economic activity. Inflation was revisedmarginally upwards (expected to be at 5.1% for FY22).

• Additional steps were taken such as easing the operationalconstraints faced by the FPIs, permitting RRBs to issue theCDs, a special liquidity facility of Rs. 160 billion to SIDBI, on-tapLiquidity Window for Contact-intensive sector etc in the latestpolicy.

• The RBI is likely to remain on hold for a while given the statedpolicy priority to revive growth on a durable basis.

• As far as liquidity is concerned, the RBI may opt for liquiditynormalization measures in the form of VRR and MSS given thatthe system is in massive surplus of nearly Rs. 8 trillion butpolicy normalization seems a long-drawn process as of now.

• Upfront assurances of intervention in government securitiesmarkets remains essential given the large borrowing scheduleand the central banks preference to implicitly target a certainlevel on the benchmark 10-year security.

Monetarytransmission sinceFeb-20 (in bps)

Government focuses on credit guarantees to alleviate second wave stress

Source: PIB, SBIMF Research; NB: Credit guarantees are towards health, MFI and other COVID impacted sectors, Rural supporthas come in the form of fertilizer subsidy, food distribution and internet connectivity, Health scheme is for upgrading the medicalinfrastructure, power distribution scheme is financial support to DISCOMs contingent on them meeting the reform criteria.

• Nearly 43% (Rs. 3.7 trillion) of the total fiscal stimulus came in the form of credit guarantees (towards health, MFI and otherCOVID impact sectors) followed by rural related support (20%), export boost measures (19%), reform-based result linked powerdistribution support (16%) and a new health scheme to upgrade medical infrastructure (2%).

• Fiscal costs of these announcements do not pose any major threat to the FY22 fiscal deficit target. The likely cash outgo due tothe package announced is expected to be modest at around Rs.1.9 trillion (0.8% of GDP).

• The overall fiscal slippage in FY22 is likely to be small, led by modest cash outgo due to these announcements, better-than-expected tax revenues, higher than budgeted RBI dividend and expenditure rationalization.

• We expect fiscal deficit to be at 6.8% of GDP in FY22 (in line with the budget estimates).

Fiscal stimulus measures announced by the government(Rs. 6.8 trillion or 2.8% of GDP in FY22)..

..entails modest Cash outgo (Rs. 1.9 trillion, 0.7% ofGDP), ensuring no major fiscal slippages

Source: RBI, SBIMF Research

FY22 borrowings plan equally elevated when compared to FY21

• Gross and net borrowing for FY22 is nearly as elevated as FY21. Gross borrowing of State and centre is expected at Rs. 20.3trillion vs. 21.2 trillion in FY21. Net Borrowing is expected at Rs. 15.7 trillion (vs. Rs. 17.6 trillion in FY21). As % of GDP, netborrowing is expected to be lower at 6.9% in FY22 vs. 9% of GDP in FY21.

• Large surplus cash balances from the previous fiscal year, higher than budgeted surplus transfer by the RBI, GSAP operationsand devolvement to primary dealers provided sufficient cushion to G-sec borrowings and thus yields in Q1FY22.

• Beyond Q1, RBI bond buying will have to be stepped up (along with other measures such as MSS issuances) when bankappetite peters out and FPI and other market participants show no major inclination.

Elevated supply of government papers in FY22 (Rs. 20.3trillion of gross supply vs. Rs. 21.2 trillion in FY21)

Net supply pegged at Rs. 15.7 trillion in FY21 vs. Rs. 17.6trillion in FY21)

Source: PIB, SBIMF Research

Government to borrow Rs. 1.58 trillion to fund the shortfall in GST cess

Central government has proposed to borrow Rs. 1.58 trillion to fund the shortfallin GST collection needed to compensate states

• State governments have been promised a 14% growth in their GST revenue for a period of fives years since theimplementation of GST (July 2017-June 2022).

• For the year FY22, the GST council estimates a shortfall of Rs. 1.58 trillion in the total SGST + Cess revenue estimated forstates for meeting the estimated 14% growth.

• The council has proposed to borrow this shortfall from the market just as it was done in the year FY21 (Rs. 1.1 trillion).

• The date of commencement , the tenure and other modalities of borrowing plan is yet to be known. From market perspective, itlends an additional supply pressure to the market.

Liquidity position under the LAF continues to stay in excess

Increased government spending will further lead to rise in banking system liquidity surplus

Source: RBI, SBIMF Research; NB: ^Banking system liquidity is Net LAF adjusted for surplus cash balance; Data on OMOs is uptil 23rd May 2020. Data on banking system liquidity is uptil 25th June. Government cash Balances is uptil 18th June 2021

Banking system liquidity remained in excess, led by increased OMO/GSAP operations by the RBI

• The banking system liquidity stayed in excess despite full restoration of CRR (that sucked out a total of Rs. 1,580 billion from thesystem: Rs. 780 in March and Rs. 800 billion in May). Increased banking system liquidity surplus can be explained by continuedOMO purchases undertaken by the RBI along with its newly introduced GSAP programme. Going ahead, increased governmentspending will further lead to rise in banking system liquidity.

• However, sustained rise in crude oil prices coupled with some moderation in FII flows may reduce the need for the RBI to do FXpurchase.

• That said, liquidity will still remain in excess and may warrant RBI’s intervention (MSF, SDF).

Bank Credit growth is muted

Source: RBI, SBIMF Research; NB: Credit and deposit growth and SLR holdings data is as of 4th June 2021

Low demand and increased banks’ risk aversion continued to keep credit growth low (currently at 6% y-o-y)

SLR holdings (% NDTL) has dipped to 28.6% currently vs.the high of 29.5% in October

• Incremental credit to deposit ratio dropped to 30% in FY21 and is expected to pick up to 60-63% in FY22 (similar to the levels seen in FY20).

Source: Bloomberg, RBI, SBIMF Research

10-year GSec relative to Repo has remained high in 2020despite rate easing cycle; spread compression unlikely in2021

G-sec valuations are neutral relative to equity

10-year G-Sec relative to Repo has remained high post COVID

• Fundamentals such as increasing commodity prices leading to inflationary risk across the globe, stickiness in core CPIinflation, elevated supply of government papers has worked against spread compression despite massive monetary easing.

Source: Bloomberg, RBI, SBIMF Research

Real return on Indian G-sec compared to EM peers are unattractive

India’s real yield (G-sec adjusted for Inflation) turned negative (-0.2%) in June vs. positive returns of 1.7% in May

Real rates10 Year Gsec Yield (% mth end, June

2021)

CPI Inflation - May 2021

Real Rate (%, 10 -ear G-Sec Yield

minus CPI)

12M FX forward premium (in %) -

June 2021

10-year G-sec yield adjusted for 12m

fwd premium (in %) - June 2021

Indonesia 6.6 1.7 4.9 4.8 1.8South Africa 9.3 5.2 4.1 5.2 4.1Colombia 6.7 3.3 3.4 3.1 3.5China 3.1 1.3 1.8 2.7 0.4Russia 7.2 6.0 1.2 na naMexico 7.0 5.9 1.1 5.5 1.5Brazil 9.1 8.1 1.0 5.3 3.8Turkey 17.4 16.6 0.8 20.4 -3.0India 6.1 6.3 -0.2 4.5 1.6South Korea 2.1 2.6 -0.5 0.4 1.7Thailand 1.8 2.4 -0.7 0.9 0.9Phillippines 3.7 4.5 -0.8 2.4 1.3Malaysia 3.3 4.4 -1.1 1.4 1.9Taiwan 0.5 2.5 -2.0 -0.1 0.6Hungary 2.8 5.1 -2.3 1.2 1.6Poland 1.6 4.7 -3.1 0.3 1.3

Source: CEIC, Bloomberg, RBI, SBIMF Research; NB: Data on FII debt outflows for Malaysia and Brazil is not availablefor June 2021, for Poland is not available for May-June 2021 and for China is not available from Apr-June 2021

FII holdings of Indian G-sec muted, thereby limiting the selling pressures

India continued to witness FII debt outflows FIIs are just utilizing 25.6% of their available limit forGovernment bonds currently

FII Debt Inflow (US$ million) 2020 Q1 2021 Q2 2021India (13,853) (2,027) (1,136) Mexico (10,027) (5,170) (388) Poland (8,345) (2,948) (2,147) Turkey (5,041) 753 282 Indonesia (4,684) (1,544) 2,451 Brazil (3,822) (3,973) (2,543) South Africa (2,323) (2,388) (1,052) Thailand (1,005) 128 2,442 Malaysia 3,252 1,793 1,720 Philippines 6,297 (2,650) 2,837 South Korea 62,287 29,588 32,751 China 1,87,177 50,932 -

Source: Bloomberg, RBI, SBIMF Research; NB: LTA is long term average

Spread of 10-year SDL vs. G-sec is marginally attractive

Spread of 10-year Corp bonds vs. G-sec stood at 85 bpsin June vs. 88 bps in May and LTA of 103 bps

Spread of 10-year SDL vs. G-sec rose to 81 bps in Junevs 78 bps in May

Source: Bloomberg, SBIFM Research; NB: GSAP : Government Securities Acquisition Programme

10-year G-Sec is trading at 205 bps spread to repo rate

Debt Outlook

• The 10-year benchmark GSec yield rose (albeit marginally) by 3 bps to6.05% in June vs. May , led by an unexpected rise in the retail inflation.

• The RBI’s GSAP and the continuing implicit yield curve control strategykept the benchmark 10- year G-sec yield anchored around 6%.

• Large cash balances from the previous fiscal year and a larger thanbudgeted surplus transfer by the RBI (Rs. 991 billion transfer vs. BE ofRs. 500 billion) also provided cushion to the yields in Q1FY22.

• The continuation of excessive surplus liquidity and ongoing RBIintervention in the form of GSAP/other market interventions remainimportant to support the existing market levels or credit spreads giventhe natural demand from market participants is thinning out.

• As the second wave subsides and activity levels start to normalize,there would be sufficient reasons to start the normalization of crisis eraliquidity support.

• The liquidity impact of interventions in Government securities market,that may still be required in view of the larger borrowing requirements,may at the margin needs to be sterilized.

• Incremental GSAP auctions from the second quarter may well beaccompanied by longer term variable rate reverse repo auctions. Thismay provide a signal for a gradual normalization of money market ratesaway from the reverse repo floor.

Disclaimer

This presentation is for information purposes only and is not an offer to sell or a solicitation to buy anymutual fund units/securities. These views alone are not sufficient and should not be used for thedevelopment or implementation of an investment strategy. It should not be construed as investmentadvice to any party. All opinions and estimates included here constitute our view as of this date and aresubject to change without notice. Neither SBI Funds Management Private Limited, nor any personconnected with it, accepts any liability arising from the use of this information. The recipient of thismaterial should rely on their investigations and take their own professional advice.

Mutual Funds investments are subject to market risks, read all scheme related documentscarefully.

Asset Management Company: SBI Funds Management Private Limited (A joint venture with SBI andAMUNDI). Trustee Company: SBI Mutual Fund Trustee Company Private Limited.

Contact Details

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