RBI needs to ramp up bond purchases to cool yields, funds say

Core Viewpoint - The Reserve Bank of India (RBI) is expected to significantly increase liquidity in the banking system due to ineffective transmission of interest rate cuts and elevated bond yields [1][3]. Group 1: RBI's Bond Purchases - The RBI is projected to buy up to 5 trillion rupees ($55 billion) in bonds by March 2027, with estimates of 2.5 trillion rupees in the upcoming fiscal year and up to 2 trillion rupees in the near term [2]. - Despite the RBI's efforts, including a record liquidity injection of 14.5 trillion rupees since December 2024, long-term bond yields have shown minimal response, with only a 17 basis point decrease in the 10-year yield last year [5][7]. Group 2: Market Dynamics - The disconnect between monetary policy and bond yields is evident, as corporate bond borrowing costs have increased, with the Small Industries Development Bank of India paying 30 basis points more for a bond than two months prior [6]. - The pressure on the Indian rupee has further complicated the situation, as the RBI's foreign-exchange operations have drained liquidity, negatively impacting bond demand [8]. Group 3: Investor Behavior - Demand for bonds has decreased due to reduced interest from key investors like insurers and pension funds, which are reallocating towards equities [9]. - Higher costs associated with bond funds are leading companies to prefer bank loans, which align more closely with policy rates, as seen with Power Finance Corp. opting for bank loans to reduce funding costs [10]. Group 4: Future Outlook - There may be potential relief if a trade deal with the US materializes, which could alleviate growth concerns and lessen the need for extensive bond purchases [11]. - Investors anticipate further action from the RBI, as current liquidity constraints and ongoing foreign exchange interventions suggest that additional bond purchases are likely in the coming months [12].