Fixed Income Review & Outlook

Oct 2018

2

Drivers of Rise in G-Sec yields

• Excess SLR (Statutory Liquidity Ratio) with PSU (Public Sector Undertaking) Banks led to weak

demand for SLR securities

• FII Outflows on back of rise in US Yields and weaker INR against USD

• Rise in crude prices to put pressure on CAD (Current Account Deficit) and result in higher inflation

• Liquidity tightening in Interbank market; Strong credit growth vs. Deposit growth

6.00

6.50

7.00

7.50

8.00

8.50

Apr-17 Jul-17 Oct-17 Jan-18 Apr-18 Jul-18

% India 10 Year Gsec Yield

Source: Bloomberg

Significant excess SLR in Banking system

3

18.0%

20.0%

22.0%

24.0%

26.0%

28.0%

30.0%

32.0%

34.0%

SLR + LCR Adj SLR*

• Incremental demand for SLR remains muted

• PSU Banks’ holding SLR securities higher than regulatory requirement

• RBI has allowed carve out of 15% from SLR for purpose of LCR^ (Liquidity coverage ratio)

• Carve out has increased by 4% in past six months

* Adj SLR = Investments in SLR adjusted for securities under LAF

^ LCR – estimated to be in the range of 15-18% of Net Demand and Time liabilities

Source: RBI

FIIs remain net seller in Indian Debt market

• Indian debt less attractive for FIIs due to weak INR and rising US Treasury yields

• Since Feb’18, net debt outflows in Indian debt market stood at USD 8.4 bn

4

3.1 3.0

4.0

2.9

2.4

0.2

2.5

0.1 0.4

1.3

-0.0

-1.4 -1.5

-2.9

-1.6

0.0

0.5

-1.4

-4.0

-3.0

-2.0

-1.0

-

1.0

2.0

3.0

4.0

5.0

Apr1

7

Ma

y1

7

Jun1

7

Jul1

7

Aug1

7

Sep1

7

Oct1

7

No

v1

7

De

c1

7

Jan1

8

Feb

18

Ma

r18

Apr1

8

Ma

y1

8

Jun1

8

Jul1

8

Aug1

8

Sep1

8

USD bn Net FII Debt flows

Source: NSDL, FIIs: Foreign Institutional Investors

US Yields and Weak INR

2.00

2.25

2.50

2.75

3.00

3.25

3.50

Jan-17 May-17 Sep-17 Jan-18 May-18 Sep-18

%US 10 Year Yield

5

50

55

60

65

70

7560

62

64

66

68

70

72

74

Apr/17 Jul/17 Oct/17 Jan/18 Apr/18 Jul/18 Oct/18

Ind

ex

INR

USD INR Vs EM Index

USD INR (Inverted Scale,LHS)

JP EM Currency Index (RHS)

• 10Y US Treasury yield has crossed 3% on back of stronger US data & is a key variable

• FII outflows and expectation of CAD deterioration putting pressure on INR

• INR fall has been largely in line with other EM currencies

Source: Bloomberg

Oil Prices Outlook – Likely to stabilise in medium term

• Supply Side issues remains

• Re-imposition of sanctions on Iran, likely to reduce exports by over 1 mbpd

• Production in Venezuela has fallen on back of political and economic crisis

• Pipeline capacity constraint in US restricting shale supply

• Oil demand expected to remain strong in 2018 and 2019

• Prices outlook remains uncertain in near term

• Limited spare capacity of OPEC to boost output in near term

• Prices likely to trend downwards in 2H2019

• Supply expected to stabilise once US pipeline capacity comes on stream

6

Source: RBI; Bloomberg

Liquidity tightening

• Liquidity tightening due to high currency withdrawal & RBI Forex intervention

• Healthy credit growth, outpacing deposit growth

7

-1,750

-750

250

1,250

2,250

3,250

4,250

5,250

Sep/16 Nov/16 Jan/17 Mar/17 May/17 Jul/17 Sep/17 Nov/17 Jan/18 Mar/18 May/18 Jul/18 Sep/18

INR bnLiquidity in Banking System

Bank borrowings / surplus with RBI

Healthy Spread between Indian & US 10Y Real Yields

8

Source: Bloomberg

-4.0

-3.0

-2.0

-1.0

-

1.0

2.0

3.0

4.0

5.0

6.0

Aug/12 Jan/13 Jun/13 Nov/13 Apr/14 Sep/14 Feb/15 Jul/15 Dec/15 May/16 Oct/16 Mar/17 Aug/17 Jan/18 Jun/18

%Real Interest Rates = Difference between 10Y GSec Yield and CPI (Consumer Price Index)

India Real Rates US Real Rates

Healthy Spread between Indian and US 10Y Nominal Yields

9

Source: Bloomberg

0.0

1.0

2.0

3.0

4.0

5.0

6.0

7.0

8.0

9.0

10.0

Jan/1

3

Ma

r/13

Ma

y/1

3

Jul/13

Sep/1

3

No

v/1

3

Jan/1

4

Ma

r/14

Ma

y/1

4

Jul/14

Sep/1

4

No

v/1

4

Jan/1

5

Ma

r/15

Ma

y/1

5

Jul/15

Sep/1

5

No

v/1

5

Jan/1

6

Ma

r/16

Ma

y/1

6

Jul/16

Sep/1

6

No

v/1

6

Jan/1

7

Ma

r/17

Ma

y/1

7

Jul/17

Sep/1

7

No

v/1

7

Jan/1

8

Ma

r/18

Ma

y/1

8

Jul/18

Sep/1

8

Indian 10Y Yields US 10Y Yields

Key Interest Rate Determinants & Their Outlook

• Growth – India’s GDP growth likely to be better than FY18

• Liquidity – Tightening due to high currency withdrawal, higher credit growth and RBI forex

intervention. OMO – purchases could be high to support reserve money

• Inflation – Headline likely to be range bound

• CAD – High crude oil prices putting pressure on CAD

• USD / INR – Strengthening Dollar and high US yields to adversely impact capital flows

• RBI Policy – Shallow rate hiking cycle, unless growth or inflation surprises on the upside or INR

depreciates sharply

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In view of the above, continue to suggest short to medium duration funds

HDFC Mutual Fund/AMC is not guaranteeing any returns on investments made in any schemes. In view of the individualcircumstances and risk profile, each investor is advised to consult his / her professional advisor before making a decision toinvest in any schemes. OMO: Open Market Operations

Factors affecting interest rates...

Positives

• Low rural wages growth

• Expectation of large OMO purchases by RBI

• Healthy real rates differential between

India and United States

• Industrial commodity prices softening

• Global food prices stable

Negatives

• Weakening INR, likely to push CPI higher

• Higher minimum support prices

• Rise in global yields and stable global

growth

• Elevated oil prices

• Robust Credit growth vs Deposit growth

• Concern over fiscal slippages

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Yields likely to have upward bias as risks tilted toward upside

Disclaimer & Risk Factors

This presentation dated 29th October 2018 has been prepared by HDFC Asset Management Company Limited(HDFC AMC) based on internal data, publicly available information and other sources believed to be reliable. Anycalculations made are approximations, meant as guidelines only, which you must confirm before relying onthem. The information contained in this document is for general purposes only. The document is given insummary form and does not purport to be complete. The document does not have regard to specific investmentobjectives, financial situation and the particular needs of any specific person who may receive this document.The information/ data herein alone are not sufficient and should not be used for the development orimplementation of an investment strategy. The statements contained herein are based on our current views andinvolve known and unknown risks and uncertainties that could cause actual results, performance or events todiffer materially from those expressed or implied in such statements. Past performance may or may not besustained in future. Stocks/Sectors referred in the presentation are illustrative and should not be construed as aninvestment advice or a research report or a recommended by HDFC Mutual Fund / AMC. The Fund may or maynot have any present or future positions in these sectors. HDFC Mutual Fund/AMC is not guaranteeing anyreturns on investments made in the Scheme(s). The data/statistics are given to explain general market trends inthe securities market, it should not be construed as any research report/research recommendation. NeitherHDFC AMC and HDFC Mutual Fund nor any person connected with them, accepts any liability arising from theuse of this document. The recipient(s) before acting on any information herein should make his/her/their owninvestigation and seek appropriate professional advice and shall alone be fully responsible / liable for anydecision taken on the basis of information contained herein.

Mutual fund investments are subject to market risks, read all scheme related documents carefully.

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Thank You

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