The FY25 final Budget kept the borrowing program largely unchanged in last week’s presentation (a marginal INR120bn reduction alongside a cut in T-bill issuances), even as the fiscal deficit target was set at a narrower -4.9% of GDP vs the interim’s -5.1% (read India Budget: Consolidation without expenditure compromise). Bond yields were little changed in wake of the Budget, though proposed changes to the liquidity norms for the banking sector turned out to be a bigger catalyst this week. The RBI has proposed to tighten the liquidity coverage ratio (LCR), in effect asking banks to set aside a higher ratio of liquid assets to meet potential risks, especially outflow of retail deposits through digital modes. This is expected to push up the banks’ demand for bonds for asset-liquidity management purposes, with the initial impact already benefiting short-end to belly duration papers this week. Banks will provide their feedback on the proposals by end-August.
This proposal alongside a correction in UST yields on expectations that the US Fed might signal a softening in their guidance at this week’s FOMC, have lifted rupee bonds. The demand tailwind also spilled over to (generic) INR 10Y bonds, pushing yields to a two-year low towards ~6.90% earlier this week. Concurrently, the next step of the increase in weightage in the JPM index occurred last week, which has been positive for flows across the curve. On 2024 YTD basis, foreign debt inflows have totaled $10.9bn as of late July, of which more than four-fifth was under the eligible FAR window. Meanwhile, following a review, the central bank announced that newly issued bonds of 14y and 30y tenor papers will be excluded from the FAR securities available for foreign investors, effective immediately. While this will limit foreign access to these tenors, stronger interest in 10Y and below might introduce a steepening bias across the curve. As it stands, Indian bonds have outperformed local currency peers in the region so far this year. The USDINR has risen to fresh highs past 83.70, but volatility has been low. The persistent mop-up of dollar flows has pushed up the FX reserve stock to record high of above $670bn, bolstering the country’s external defences.
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