InvestorQ : Can you tell me why the 10 year bond yields in India have fallen from 7.63% to 7.46% in a short span of time?
Rutuja Nigam made post

Can you tell me why the 10 year bond yields in India have fallen from 7.63% to 7.46% in a short span of time?

2 weeks ago

Bond yields are falling in the last few days. It is down about 15-16 bps from the peaks. That is not much considering that the bond yields have rallied close to 80 bps in the last few months. However, this is still significant since it comes amidst the most hawkish statements by the US Federal Reserve and the RBI. Normally, a hawkish stance by the RBI and the Fed would boost the bond yields higher. More so, since India’s fiscal deficit is at all-time high.

The fall in bond yields can be largely attributed to the sharp fall in oil prices. Brent Crude which had touched $124 last week, fell by over 7.5% in the previous week to around the $114 levels. So, what is the connection between oil and bond yields.? It is quite simple. As oil gets cheaper, the trade deficit gets lower and that means less pressure on borrowings and therefore lower fiscal deficit. That is favourable for lower bond yields.

But, why have oil prices fallen? The fall in oil prices was on the back of concerns that the spate of rate hikes and sustained hawkishness of the Fed would translate into a sharp global slowdown. The Fed governor, Jerome Powell, has already hinted that the US growth could be lowered from 2.8% to 1.7% for calendar year 2022 and could trend even lower in 2023. That could trigger a global slowdown which depressed the prices of crude oil substantially.

In the current context, the fall in oil prices is indicative of commodity disinflation. This results in lower demand for money and hence tapering bond yields. The second side of the argument is that if the growth slowdown actually transforms into recession, then the central banks like the RBI and the US Fed cannot afford to stay as hawkish as they are appear today. They would be forced to adopt course correction and start cutting rates to boost growth.

To cut a long story short, the bet is that concerns over global growth slowdown could prompt central banks to give up on tightening plans. This will result in lower yields and that is the trend you are seeing today. While the May retail inflation number is still above the RBI tolerance limit of 6%, it has come down by 75 bps from 7.79% to 7.04%. For now, the recession fears are keeping bond yields in check.