Bond yields – from greed to fear

The inversion of yield curve is now from 3M paper, as the government accepted 6M and 12M bids at lower rates yesterday, and today all the tenure T-Bills are trading at further discount to yesterday’s cut off yields. Some are making call of 50 bps cut in policy rate in Nov-19; however, the market seems to be over reacting. A few months back, market was over reacting based on greed – in anticipation of higher rates moving forward, and now the fear is over playing - market is expecting the rates to come down further, and trying to accumulate at whatever rate it gets. The balance is missing.

Our thinly traded bond market works on sentiments which were not good a few months back. The fiscal mess was bad, IMF programme was in limbo and even after getting into the programme, all the pundits were talking about missing targets – top rated economists were predicting a premature exit from the programme, and ‘stagflation’ was being used to describe economic conditions.

Today, all IMF targets are expected to be met with flying colors in the first quarter review, the fiscal deficit seems little more manageable – though still not out of woods, foreign portfolio investment started pouring in – read “It is hot- handle with care”, current account is curtailed, and the multilaterals future outlook is encouraging. Seeing all this, the participants are trying to gather as much as they can today - and that is bringing the rates down.

The economic conditions were not that bad earlier, and things are not rosy today. They are moving slowly and following the stabilization phase as this space have been propagating for the last year or so. The good thing for the economy is falling global commodity prices due to global economic slowdown – read “Caution: Global headwinds ahead”. Being net importers country, it is working in Pakistan’s favour.

Having said that, there are still some risks which require caution till central bank can say that signs of stabilization is establishing into a firm trend. If the oil prices move up, it can flip the table setting - chances are less. On economic growth, some improvement was hinged upon expected better agriculture output as last year was bad, but unfavourbale weather conditions and pest attacks are adversely affecting, maize, rice and cotton crops – downward risk to economic growth, cotton import pressure, and high food inflation. Then things can escalate on border with India due to Kashmir issue.

Some bankers say that Governor SBP is now talking about improving economic sentiments- curtailment of CAD and inflation to tame in second half. They say, he was too hawkish earlier and now his stance is changing. That is not the case. MPS of Jul-19 almost explicitly said that the rates are peaked and now wait and see is the approach. In an interview to Business Recorder, he had said in so many words said that signs are positive, but SBP will wait for the trends to establish. In an analysts’ briefing, he had maintained that central banks are like ocean liners – they take time to change direction. And reading the minutes of Jul-19 policy and statement of Sep-19, status quo is likely for a few more months

The rate hike of 100 bps was not called for in Jul-19 and having done that, changing the direction in Nov-19 will look bad. Inflation may come down a bit in October before getting back to double digits during Nov-Feb and then back to single digits. Seeing all this, rates are likely to remain unchanged in November. There are more chances that rate will start moving down in Mar-20, and in 12 months, expect significant easing – all set for stock market to have a rally similar to 2009-12 – but it may be a roller coaster ride.