Macro Strategy

RBI’s swap measure buoys sentiments; BSP’s easing bias
Radhika Rao, Duncan Tan19 Mar 2019
    Photo credit: AFP Photo

    India: RBI’s swap measure buoys sentiments

    While INR bond players awaited updates on more open market operations, the RBI surprised by rolling out a measure to boost liquidity on a more durable basis. Last week, the RBI announced a USD/INR buy/sell swap auction worth USD5bn, to be conducted on 26 March. Under this auction, the RBI will buy dollars from the banks and release equivalent rupees into the system for three years, after which banks will buy dollars back. The US Dollars raised through this auction will be reflected in RBI’s foreign exchange reserves for the tenor of the swap while also reflecting in RBI’s forward liabilities. To hedge against rupee depreciation risks in the interim, banks will pay (swap) costs which will be arrived at the auction; this safeguards the banks. On the central bank’s part, existing reserves provide ample cushion. Varying from the 2013 swap arrangement, banks are unlikely to receive subsidised swap costs this time around, given a stable rupee and reserves buffer.

    Apart from diversifying liquidity-infusion efforts, this measure is expected to ease longer-tenor forward premia, helping to lower hedging costs. This is opportune considering recent changes to external commercial borrowing limits, particularly for state-owned oilers, introduction of the VRR investment route for portfolio investors and better foreign flows. Indian corporates have also shown a strong appetite for USD fund raising this year, with YTD issuances at a record of USD4.8bn for this period, according to Bloomberg, due to compression in US-IN spreads. On the side, this move is also seen as a pre-emptive step to absorb strong imminent M&A related inflows and thus limit gains in the currency.

    Reaction in the rupee (helped by by a soft dollar and strong inflows) and bond markets has been positive; INR is up 1.8% vs USD year-to-date vs -2.8% earlier in the year. Bonds gained as yields of the most traded 2028 INR sovereign bond tested below 7.5% and (generic) 2Y yields below 6.6%. If this near-term correction in yields gains traction, banks might be able to improve their marked-to-market balances ahead of the end-fiscal year close.

    Into FY20, markets will look for clarity on further OMOs (after FY19’s INR3trn purchases), July’s Budget math and scale of monetary easing to push 10Y yields decisively lower.

    Philippines: BSP’s easing bias

    We expect Bangko Sentral ng Pilipinas (BSP) to cut bank reserve requirement ratio by 1% but keep the policy rate unchanged (see here). The appointment of former Budget Secretary Benjamin Diokno to the position of BSP Governor has fundamentally changed the monetary policy outlook. Governor Diokno is perceived to be more pro-growth and dovish compared to his predecessor and his recent comments certainly proved so. As a result, the PHP went from best-performing Asian currencies in February to the worst in March (month to date). With monetary easing expected to accelerate (to boost growth) and thus interest rate support to be weaker, markets now see greater downside risks to the PHP.

    We are not yet ready to abandon our constructive view on PHP and Philippine Government Bonds (RPGB). As we have written previously, moderating inflation and positive real yields should reverse residents' bond outflows of 2018. Externally, the current global economic and monetary environment could be conducive to a pickup in foreign demand of domestic assets. Against the backdrop of a mild global synchronized slowdown, Philippines' more domestically-driven and high-growth (6-7%) economy puts it in a favourable light. The high yields on PHP and RPGB (> 6%) are particularly attractive at a time when core central banks are leading global rates lower. This is somewhat confirmed by latest BSP data which show very strong foreign buying of government bonds (USD481mn) and listed stocks (USD681mn) in January and February. Flows could continue to be supportive of PHP and RPGB performance.

    For offshore investors of RPGB, the expected drivers of outperformance have likely shifted. Recent comments by Governor Dickno seem to suggest lesser room for PHP appreciation. But that is more than compensated by greater fixed income return potential. Interestingly, judging by how flat the curve currently is (2Y/10Y spread at 18bps), we suspect markets have not priced in much of the expected easing (yet). Therefore, cuts to the reverse requirement ratio and policy rate should cause the yield curve to bull-steepen, benefiting the shorter tenors more.

    There are a couple of key risks to our view. First, inflation could rebound. Second, markets could perceive any future easing to be overly aggressive or premature (especially if inflation has yet to stabilize) and thus react negatively.

    Radhika Rao

    Economist – India, Thailand & Eurozone

    Duncan Tan

    FX and Rates Strategist - Asean

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