Repo Rate Cut By 40bps; Moratorium Extended
We continue to believe that companies with weaker balance sheet will still find it tough to raise money. Rate cut alone would not be enough to revive risk appetite for credit in our view.
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The Reserve Bank of India (RBI) in an unscheduled monetary policy committee (MPC) meeting today reduced the policy repo rate by 40bps to 4%, lowest in the last 2 decades. The MPC judged that the risks to growth are acute, while the risks to inflation are likely to be short-lived. Hence, it was essential now to instil confidence and ease financial conditions further.
In addition, the RBI also announced few measures to ease financial stress like an extension of the moratorium on interest payment and conversion of accumulated interest for the deferred period on working capital loans to term loans payable by 31st March 2020. It also announced measures to support exports and imports and improve the function of markets.
The RBI’s assessment of the global and local economy was grim as expected. Though it believes the rise in food grain production and forecast of a normal monsoon are rays of hope. Given the extent of the uncertainty, the MPC did not provide inflation and growth forecast levels this time. It highlighted that inflation in the first half of FY2021 could be elevated given supply shock to food prices but should ease in the second half as supply normalises. The MPC sees GDP growth in FY2021 to be negative but recover in the second half of the year.
The RBI has now cut rates by a total of 115bps in last 2 months and provided a significant amount of liquidity. However, this has failed to improve risk appetite as evident by a steep yield curve. The special liquidity window for NBFCs announced by the Finance Minister last week will buy bonds with residual maturity up to only 3 months. While this may smoothen some amount of stress in the market it doesn’t create risk appetite.
Lending stocks, Banks and NBFCs, declined in trade today with the Nifty Bank index closing the day down by about 2.6%. While the moratorium is good to move for end customers it creates elevated the risk of NPAs on the balance sheet of lenders. It also puts stress on NBFCs that do not have enough liquidity to tide over the coming few months.
Bond markets reacted positively to the rate cut, with the yield on the old 10-year benchmark (6.79% GoI 2029) down by 7 bps to 5.96% at the time of writing this. We believe liquid fund returns could track repo rate and may be lower over the next few days. PSU bond yields have declined by about 100 to 150 bps over the last two months.
However, the yield on non-PSU AAA rated corporate bonds are attractive. Market dislocation could create some attractive risk-reward opportunities among the better-quality AA-rated corporate papers which investors could capitalise on. On the other hand, we continue to believe that companies with weaker balance sheet will still find it tough to raise money. Rate cut alone would not be enough to revive risk appetite for credit in our view.
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