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The one-year overnight indexed swap (OIS) rate, which indicates expectations of interest rate movements, hit three-month lows earlier in November. However, this decrease doesn’t necessarily signal an anticipated repo rate cut in the next 12 months, according to experts.

The recent drop in swap rates is interpreted as a removal of concerns about an effective rate hike in India. This could be achieved either through the Monetary Policy Committee raising the repo rate or the Reserve Bank of India maintaining liquidity at a significant deficit to increase funding costs in the economy.

Tight liquidity

As of now, the one-year swap rate stands at 6.87 per cent, settling at its lowest point since August 10. Despite the recent decline, expectations of a repo rate cut aren’t widespread. The market sees this adjustment more as a rollback of the fear that the RBI might keep liquidity in a substantial deficit.

The overnight Mumbai Inter-bank Offered Rate (MIBOR), a key component, has remained above 6.80 per cent for the past month. In the current scenario, discussions about a rate cut often revolve around a reduction from 6.75 per cent back to the repo rate of 6.50 per cent, rather than an actual cut in the repo rate.

The deficit in banking system liquidity has influenced the one-year swap rate, and the prevailing market sentiment suggests a continued tight liquidity situation for the remainder of the current financial year ending in March.

While there are projections of CPI inflation falling below the RBI’s 4 per cent target in Jul-Sep 2024, the Monetary Policy Committee is unlikely to consider rate cuts without sustained retail inflation under 4 per cent. The recent move in OIS rates indicates a shift in expectations, with the market now foreseeing a potential easing of the MIBOR rate to near 6.50 per cent in April.

Prolonged pause

The overall sentiment suggests a prolonged pause and a minimal probability of a rate cut in the near future. The market is cautiously optimistic, with a focus on the ‘higher for longer’ scenario, and there is no clear indication of rate cuts unless there’s an easing of rates in the US.

Global cues, such as crude oil prices and US yields, have stabilised, but the movement in the one-year swap rate remains influenced by domestic money market rates, which are expected to stay high for the next five months. The recent drop in the one-year OIS rate is seen as having hit a near-term floor, and further declines may depend on the Fed’s stance on rate cuts.

  • Published On Nov 20, 2023 at 08:00 AM IST

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