RBI is likely to maintain a status quo on key policy rates during its policy review meet next week, believes Murthy Nagarajan, head – fixed income, Tata Asset Management. Nagarajan, however, expects a 75-100 bps cut in the coming financial year if the country?s GDP growth slows to below 6% this year. In an interview with Ashley Coutinho, he advises investors to avoid exposure to high-yielding funds that come with a higher probability of a default risk. Excerpts
What are your expectations from the RBI?s policy review scheduled for September 17?
The global macro-economic environment has become challenging as low policy rates in Europe and the US have failed to stimulate growth in these countries. Inflation remained low in the advanced economies. However, India has been an outlier with growth slowing down, but inflation remaining high at 7%. The industrial production data was 0.1% for July against -1.8% for June. RBI has consistently flagged off higher inflation and lack of fiscal consolidation as reasons for not cutting rates as it thinks that cutting rates would not lead to higher growth and at the same time aggravate inflationary pressures. Unless fuel prices are hiked in a meaningful manner, RBI is expected to stay put on rates. However, the central bank may give explicit guidance of its requirements to cut rates in the policy.
Inflation remains at elevated levels. Do you think a cut in policy rates can help bring down inflationary pressures?
Inflation in Indian context is both a supply and demand side problem. The supply pressures are due to adverse global macro-economic factors, the political climate in India and drought situation in some parts of the country. The demand pressure is due to high fiscal deficits run by the central and state governments, excess money creation through OMO (open market operations) done by the central bank to increase money supply in the economy. This situation has led to inflation targets being missed five times in last six years. Given this background, it does not seem likely that rate cuts would have any meaningful impact on growth prospects of the economy.
How do you read the trajectory of interest rates in the year ahead?
Interest rates are expected to come down as credit growth slows in the economy and demand for money comes down. Banks are expected to see rising NPAs in the coming quarters and their investment will be channelised into government securities and AAA-rated bonds. As the GDP growth slows to below 6% this year, inflation should start coming down in the next financial year. RBI is expected to cut rates aggressively during that period to stimulate growth. We expect a 75-100 basis points cut in the coming financial year.
Which debt products do you expect to do well if there?s a rate cut?
Debt products like short-term bond funds, Gilt funds, Income funds are expected to do well if there is a rate cut as these schemes run a maturity profile of two to 10 years. The two to five-year segment looks attractive due to higher accrual available in these segments. On a risk adjusted basis, short-term funds are expected to perform well as they benefit most due to the inverted-yield curve.
What is your advice to investors at this point? Which are the debt products that they should invest in?
Investors should enter duration products as the rate cut cycle has started and it may continue for next two years. However, due to deteriorating credit environment, investors should not take exposure in higher yielding funds as these funds come with the increased probability of a default risk. Investors should invest in short-term bond funds as they can avoid re-pricing risk in their portfolio. Investors can also look at income funds due to higher accrual available in this segment compared with G secs. However, due to deteriorating credit environment, investors should do a due diligence of the portfolio and invest only in those portfolios which are more than 75% invested in AAA rated bonds/G securities.