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Informist, Tuesday, Feb. 4, 2025

MUMBAI – The government should consider reducing the average maturity of its supply of government bonds as the spread of long-term bond yields over the belly of the yield curve has increased, Bandhan Asset Management Co.'s head of fixed income, Suyash Choudhary, said in a note Tuesday. However, the fund house still prefers to stay invested in long-term bonds over the medium-term, the note said.

As rate cuts in India begin, bonds maturing up to 10 years will be more in demand. Moreover, the Reserve Bank of India's open market operations have brought down the yields of bonds maturing in five to 10 years, while long-term bond yields have remained stagnant, the note said. The spread of the 30-year benchmark gilt yield on the 10-year yield has widened to 37 basis points on Tuesday from 25 bps on Dec. 31. 

"...the incremental ‘mandate-driven' long-end demand seems to have weakened as evident in recent flow information, anecdotal evidence, as well as the rise in term spreads as shown above. This, in turn, makes the case for re-examining the proportion of long-term issuances going forward," the note said. 

The average maturity of gilt issuances has gone up to nearly 21 years, from 16 years in FY23, the note said. In FY23, the government's borrowing calendar had bonds over 30 years making up 29.1% of the calendar, which has risen to 37.1% in FY25.

As the yield curve steepens, the government has more incentive to issue shorter-maturity bonds to cut down its borrowing costs, Bandhan AMC said. India's high-interest payments-to-GDP ratio is seen as a key constraint by global rating agencies for a lack of a rating upgrade from the lowest rung of investment grade. Moreover, the note said that the concentration of gilt maturities tapers off after FY35, giving the government more room to borrow in that segment.  

"Thus, even from a risk management standpoint, the government can now afford to start bringing down the average maturity of borrowings," Choudhary said.

The demand for bonds maturing from five to 10 years is expected to remain robust over the next two years due to rate cuts and possibly large OMO purchases by the RBI, which will infuse higher liquidity into the banking system, Chaudhury said. Most bond traders are now expecting a 25 bps repo rate cut on Friday at the outcome of the Monetary Policy Committee's meeting, beginning a rate cut cycle of 50-75 bps from the current 6.50%. Despite this, Bandhan AMC expects the recent underperformance of long-term bonds to reverse in the coming months, and holds onto its call to add bonds maturing in 30 years and above to its actively managed portfolios.

"As this stagnation reverses, the duration benefit of the long-end will reassert itself in performance even accounting for some further widening of term spreads," the note said. "Additionally, if, as seems logical basis the reasoning presented above, government/RBI were to tweak some supply away from the long end, then the performance could be even more pronounced since then term spreads may have no reason to widen further."

For Choudhary, the underlying reason for his confidence in long-term bonds is fiscal and macroeconomic stability, after the government brought down its fiscal deficit aim to 4.4% of GDP in FY26 from 9.2% five years ago, delivering on its roadmap. With further consolidation on the debt-to-GDP front promised, there was no fundamental reason to move away from the trade, the note said. 

Moreover, as interest rates fall, real money investors can continue to receive higher absolute returns on long-term bonds even if spreads widen, the note said. As long as the rate view is positive, the steepening of the bond yield curve only provides opportunities for such investors. In addition, should the government choose to optimise its borrowing by issuing more in shorter tenures, the reduction in supply pressures could be an incremental positive, the fund house said. 

"Finally, and most fundamentally, long duration government bonds still look to us as one of the best macro trades on India's rising relevance on size, its macro-stability narrative, and the likely continued discovery of Indian bonds by offshore investors over the next few years," Choudhary said. "Given this, the demand-supply dynamics presented here as well as potential issuance offsets discussed above are meant more as a short term analysis and do not take away from the attractiveness of long duration over the medium term."  End

Reported by Srijita Bose

Edited by Deepshikha Bhardwaj

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