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Informist, Monday, Aug. 11, 2025

 

By Srijita Bose

 

MUMBAI – Market participants are placing their bets on the Reserve Bank of India's projections on firm GDP growth in 2025-26 (Apr-Mar) going awry in overnight indexed swap rates. This is keeping OIS rates anchored, at a time when government bond yields continue to climb, impacted by the central bank's commentary suggesting a high bar for future rate cuts. The five-year benchmark gilt yield's spread over the five-year swap rate has risen to nearly 45 basis points, levels last seen in May.

 

Since the RBI's Monetary Policy Committee unanimously opted to keep both the repo rate and policy stance unchanged last week, the yield on the five-year benchmark 6.75%, 2029 gilt has risen over 15 bps from Tuesday. Meanwhile, the five-year swap rate has risen only four basis points as traders retain positioning on a rate cut in the non-funded, derivatives instrument as the mark-to-market losses on their calls going wrong is limited.

 

With uncertainty over a trade deal between India and the US, and the Donald Trump administration threatening a cumulative 50% tariff on India starting Aug. 27, traders see a downward bias in growth that may convince the Monetary Policy Committee to cut the repo rate by at least another 25 bps by December. Should the 50% tariffs on India persist, India's GDP growth in FY26 is seen undershooting the RBI's forecast of 6.5% by up to 100 bps, according to reports by economists including MUFG. 

 

"There are high chances that there will be a slowdown in growth due to Trump's tariffs...we are already seeing pressure in exports," a dealer at a primary dealership said. "Plus, the yield spread between the US and India will also open up, so that also makes a case for rate cuts." A wider interest rate differential between the safe-haven asset and emerging market debt like India's bonds makes the latter more appealing to foreign investors. 

 

The US Federal Open Market Committee is expected to cut its key interest rate in September as growth and jobs prints begin slowing from the impact of recent fiscal and tariff policies, consequently leading to a fall in US Treasury yields. Currently, traders see more than 85% probability a 25-bps rate cut at the upcoming FOMC meet, according to the CME's FedWatch tool. This may allow the RBI to consider easing monetary policy without worries about the rupee depreciating and foreign portfolio investment dwindling.

 

As the FOMC rate cuts have built up, the differential between the 10-year US yield and the 10-year Indian government bond yield has widened to nearly 220 bps from around 170 bps earlier in 2025. While purchases in bonds have been lukewarm despite the differential rising, offshore traders continue to receive the five-year OIS rate consistently.

 

"No one wants to take a risk on bonds right now, because we don't know how much of an upside in yields we might be seeing. The yield (on the 10-year benchmark gilt) could go to 6.50% also", a dealer at a private sector bank said. The 10-year benchmark yield ended at 6.44% Monday. "If you are betting for something, its better to go for OIS than gilts."

 

Unlike swap rates, which are purely based on prevailing and expected interest rates, bond yields are influenced by demand and supply dynamics as the market settles in to absorb the government's INR 14.82 trillion gross borrowing programme. Sluggish demand from end-investors for bonds has suddenly "normalised" demand-supply, pushing up gilt yields after over a year when demand exceeded supply. This was partly due to the RBI's bond buys worth over INR 5 trillion, which are not seen returning in a hurry. This is also holding traders back from entering "bond-swap" trades, which are traders betting on a contraction in the spread between the two instruments.

 

"People are already heavy on their books and there is no clarity on rates still, so no one wants to add aggressively to their books even though ,in absolute terms, yields are lucrative," a dealer at another private sector bank said. "There is also a heavy supply that they (investors) will have to absorb, so they will tread carefully."  End

 

IST, or Indian Standard Time, is five-and-a-half hours ahead of GMT

 

Edited by Deepshikha Bhardwaj

 

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