By
Suresh Seshadri
BOMBAY (Reuters) - Indian interest rates look headed higher as
high oil prices and rising demand in an economy poised for 7 percent
growth lift inflation, while the government borrows more to fund
its fiscal deficit, investment bank JPMorgan said.
Srinivasan Varadarajan, managing director and head of markets at
JPMorgan Chase Bank's Indian unit, said his advice to clients seeking
to raise long-term money was to borrow at a fixed rate.
"The normalisation of rates is not over as far as India is
concerned," Varadarajan told Reuters in an interview on Tuesday,
saying he expected the Reserve Bank of India (RBI) to raise rates
in October.
"If you believe you are going to get anywhere between another
6.5 to 7 percent growth even next year and credit off-take is similar
to what we are seeing this year, I think rates will continue to
go higher next year."
India's central bank last month left its benchmark short-term interest
rate unchanged at 5.0 percent, but left the door open for rate increases
later in the year.
The RBI had raised the short-term rate by 25 basis points at its
previous two policy meetings to contain inflation expectations after
high oil prices fired the inflation rate to a 3-1/2-year high of
8.74 percent in August.
Varadarajan saw bond yields rising along with official rates, with
federal gross borrowings for the year to March 2006 unlikely to
be much below a budgeted 1.39 billion rupees ($32 billion).
Since the eve of the RBI's quarterly policy review in June, the
benchmark 10-year federal bond yield has risen by about 25 basis
points to 7.06 percent, still off a two-year peak of 7.31 percent
last November.
"We would expect the full gross borrowing programme almost
to be done this year which means the supply overhang is not going
to be going away at least till December. So, 7.5 to 7.75 percent
is the peak one should see by December on the 10-year bond."
Varadarajan said most bonds on the Indian sovereign debt yield
curve were not easily available for trading, slightly distorting
the spreads between maturities on the curve.
"Right now the most liquid bond on the curve is the 10.25
percent (maturing in 2021), which still looks quite attractive and
offers good value."
DIVERGENT RUPEE VIEW
Varadarajan also differed with the JPMorgan house view on the December-end
outlook for the partially convertible Indian rupee.
JPMorgan's research team forecasts the rupee will weaken by more
than 3 percent, from 43.5475 per dollar to 45.0 by Dec. 31, mainly
on account of a record trade deficit that the country's rising oil
import bill is expected to further inflate.
"My view is that it is not going to be far away from where
it is right now. The equity story is still strong and I presume
the flows are going to continue and the rupee is going to be fairly
in a range. By end-December, I see it at 43.75, max 44."
Overseas portfolio investors, including Japanese funds, have aggressively
bought more than $7 billion worth of Indian stocks in 2005, helping
the benchmark Bombay index gain more than 15 percent this year and
buoying the rupee.
But the rise in fund flows since June and China's revaluation of
the yuan last month, have also spurred the RBI to resume its rupee-selling
interventions to curb the Indian currency's gains.
Varadarajan said the Indian central bank's exchange rate policy
was mainly aimed at minimising volatility. The rupee's trade-weighted
overvaluation, which JPMorgan estimates at about 9 percent, though
a factor, would matter less.
"I think the RBI would let flows determine the value of the
rupee, they are not going to go out of the way to depreciate it
because of the overvaluation."
"If there are strong flows which they believe are not going
to be sustained, they would eliminate the effect on the currency
by mopping it up."
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