iThe inversion in the yield curve in the corporate bond market seems to be getting entrenched due to issuers’ preference for raising resources via 3-5 year bonds and investors’ yen for high-yielding long-term bonds with maturity of 10 years and above.
The corporate bond market has been moving in tandem with the Government Securities (G-Sec) market, with a yield curve inversion emerging over the last couple of months. This is mostly due to a supply-demand mismatch.
Normally, longer-duration interest rates are higher than short-duration ones. So, the yield curve normally slopes upward as duration increases. If short-duration interest rates are higher than longer-duration rates, a yield curve inversion happens.
“Most of the corporate bond supply has been in the 3-5 year bucket. Bond supply in the 10-year bucket is scarce. Insurance companies and provident funds always want to buy bonds with maturities of 10 years and above. So, this has resulted in an inversion in the corporate bond yield curve, in line with G-Secs and State Development Loans,” said Aditya Gore, Head: International coverage and research, Fixed Income, Nuvama Wealth Management.
He observed that a couple of weeks ago, a leading non-banking finance company issued five-year bonds at 7.73 per cent and 10-year bonds at 7.68 per cent. So the yield curve is already inverted.
Today, a leading standalone housing finance company issued 10-year bonds at 7.75 per cent. But its 2026 bonds are trading at around 7.85 per cent, Gore said.
Normalisation soon
“Once the RBI hints about rate cuts, the inversion in the yield curve should start getting corrected. In another couple of quarters, the normalisation of the curve should happen. Till then, the yield curve will be flat to inverted,” he added.
In developed markets, an inversion in the yield curve implies an oncoming recession. In India, supply-demand dynamics generally determine the trajectory of the yield curve. So, the inversion in the yield curve is not a leading economic indicator.
Pankaj Pathak, Fund Manager, Fixed Income, Quantum Mutual Fund, observed that declining inflation, peaked policy rates, and a comfortable external position are all strong backdrops supporting the bond market over the medium term.
However, the near-term outlook is clouded by uncertainty over the timing, quantity, and distribution of rainfall amid forecasts of El Nino conditions.
“Given that bond yields have come down significantly over the last three months, there is a high possibility of yields moving higher from current levels in the near term.
“However, the upside on yields should be limited to 10–20 basis points given the overall macro backdrop being favorable,” he said.