There couldn't be a better time to buy bonds than now
As we enter 2024, there appears to be a strong case for revisiting investment strategies.
With the Reserve Bank of India (RBI) steering a steady course on interest rates and the National Pension Scheme (NPS) increasingly favouring government securities, a re-evaluation of asset allocation seems timely.
Understanding the Current Interest Rate Trend
The RBI has maintained the key policy rate for a while now at 6.50%.
The median forecast suggests that the rate have peaked for now and will likely remain unchanged.
However, looking ahead, there's a 4.
Projections by economists indicate a gradual reduction in the repo rate, provided inflation comes down.
Many economists estimate Consumer Price Inflation to fall to 4.6% year-on-year in FY25 from an estimated 5.4% in FY24 on lower food inflation.
The downward trajectory in rates could start with a 50 bps fall in policy rates in FY25, starting October, according to estimates by Bank of America Securities.
This expected fall in interest rates signals an opportune moment for investors to consider fixed-income assets like bonds.
The expected stability and potential decline in rates make bonds an attractive option for those looking to balance or diversify their portfolios.
NPS Growing Affinity for Bonds
The NPS is channelling more funds into government securities. This shift is driven not only by the default retirement plans of state employees but also by a cautious approach towards equities, which currently show steep valuations and higher interest rates.
Statistical Evidence
The RBI's latest data indicates a significant increase in pension funds' investment in government bonds – a jump from 3.50% to 4.32% of the outstanding stock.
This equates to about ₹4.48 lakh crore in government bonds as of September's quarter-end.
In contrast, in March 2023, this figure was ₹2.98 lakh crore. These numbers are reflective of approximately 44% of NPS's total AUM, which stands at ₹10.22 lakh crore.
Implications for the Bond Market
The growth in government bond holdings by pension funds has outpaced the overall assets under management growth of the NPS. Pension funds are increasingly placing their chips on government bonds, drawn by their reputation as a dependable and rewarding investment.
Equity Market Ahead Of Elections
The upcoming general elections in India divide the economic outlook into two distinct phases: pre-election and post-election.
While mutual funds continue to see steady inflows into equities, there's an anticipation of profit-taking events, potentially followed by a consolidation and bull run post-elections.
Investors often fall prey to confirmation bias, focusing only on market segments that align with their expectations. Sticking too rigidly to familiar investments might make you overlook the potential in diverse markets, such as bonds.
The Case for Investing in Bonds Now
Attempting to time market movements, be it in equities or inflation, is fraught with uncertainty. Right now, the financial landscape appears relatively conducive for putting your money into bonds.
Why so?
Now is a pretty solid time as experts don't see yields jumping up much, which means bond prices won’t fall. And that’s good from a capital conservation perspective.
Driving Forces Behind the Bond Market
The demand from pension funds and insurance companies for high-quality, high-yielding bonds is set to bolster the bond market.
Their investments, aimed at funding pensions and annuities, are expected to keep bond yields attractive for the foreseeable future.
A Strategic Move Towards Bonds
In light of the RBI's comments, the NPS's investment patterns, and the nuanced dynamics of the equity market, allocating more funds to bonds in 2024 appears to be a prudent strategy.
If you're aiming for a conservative approach and asset allocation as a strategy, it could be wise to raise investments in bonds. The chances of a rate rise appear limited, given the forecasts.
If interest rates do start easing from October 2024, bond prices will rise and you could end up on the winning side.