May 2014 | srei

May 2014

May, 2014

Highlights of the RBI’s Bi-monthly Monetary Policy Statement, 2014-15

  • The repo rate under the liquidity adjustment facility (LAF) unchanged at 8.0%.
  • Consequently, the reverse repo rate under the LAF unchanged at 7.0% and the marginal standing facility (MSF) rate and the bank rate at 9.0%.
  • The cash reserve ratio (CRR) unchanged at 4.0%.
  • The statutory liquidity ratio (SLR) reduced by 50 basis points (bps) from 23.0% to 22.5% of their net demand and time liabilities (NDTL) with effect from the fortnight beginning June 14, 2014.
  • The liquidity provided under the export credit refinance (ECR) facility reduced from 50% of eligible export credit outstanding to 32% with immediate effect.
  • A special term repo facility of 0.25% of NDTL introduced to compensate fully for the reduction in access to liquidity under the ECR facility with immediate effect.
  • The 7-day and 14-day term repos of up to 0.75% of NDTL to be continued to provide liquidity.

 

Indian Economy Review

Indian economy grows at a steady pace, deficit narrows

India’s gross domestic product (GDP) for the fourth quarter of the financial year 2013-14 (FY14) grew at 4.6%, same as in the previous quarter. For the entire fiscal, the economy grew at 4.7%, higher than the decade low growth of 4.5% in the previous fiscal. In FY14, fiscal deficit reduced to 4.5% of the country's GDP at Rs 5.08 lakh cr, down from 4.9% in the previous fiscal. The current account deficit (CAD) narrowed to 1.7% of GDP, or $32.4 bn, in the latest fiscal, from 4.7% in FY13. CAD narrowed to $1.2 bn or 0.2% of GDP for the March quarter.

Domestic GDP Growth

 

 

 

 

 

 

 

Wholesale inflation falls even as retail prices gain slightly

Wholesale price index (WPI) inflation eased to 5.20% in April from 5.70% in March; the fall was led by decline in inflation in the overall food segment - slipped to 8.64% in April from a high of 9.9% in March. However, retail inflation measured by the consumer price index (CPI) rose to 8.59% in April following 8.31% growth in March.

Other major developments in the month

  • Government directed ONGC to pay Rs 56,384 cr in subsidy to help state-owned fuel retailers cover part of the losses they incurred on diesel and cooking fuel in 2013-14.
  • The Ministry of Finance (MoF) drew up a plan to revive the dormant primary markets through greater retail participation. It also said that India Post can re-apply for a bank licence under the new guidelines being prepared by the RBI.
  • The MoF asked the Income Tax Department to share details of defaulters' wealth tax returns with public sector banks (PSBs) to help them recover bad loans.
  • Ministry of Corporate Affairs clarified that non-banking finance companies (NBFCs) are exempt from the mandatory debenture redemption ratio norm under the new Companies Act 2013.
  • The government asked Coal India to prepare an action plan for enhancing output over the next five years and to fast-track completion of projects and expansion of existing coal mines.
  • On the divestment front, the government decided to identify sick public sector undertakings for divestment, while going ahead with the sale of its residual stake in Hindustan Zinc and Balco.
  • Further, the Cabinet Committee on Economic Affairs (CCEA) ratified the decision to sell 4.66% stake in BHEL through the block deal route.

Major regulatory developments in the month

  • The RBI allowed Limited Liability Partnership (LLP) firms to carry out financial commitment to / on behalf of joint ventures or wholly-owned subsidiaries of the Indian companies abroad.
  • The central bank set up Central Repository of Information on Large Credits for the collection, storing and dissemination of data on all borrowers' credit exposures, including Special Mention Accounts with aggregate fund-based and non-fund based exposure of Rs 5 cr and more.
  • SEBI allowed 103 entities to set up alternative investment funds.
  • Comptroller and Auditor General (CAG) stated that it will continue to audit private companies and private public partnership (PPP) projects in cases where revenue sharing with the government is involved.
  • The Directorate of Revenue Intelligence sent a Rs 5,500 cr show-cause notice on the Adani Group for alleged over-valuation of capital equipment of imports.
  • Directorate General of Civil Aviation (DGCA) issued guidelines to all operators for real-time tracking of aircraft engaged in carrying passengers and cargo from departure to arrival.
  • Directorate General of Civil Aviation (DGCA) issued guidelines to all operators for real-time tracking of aircraft engaged in carrying passengers and cargo from departure to arrival.

Among key economic indicators released in the month,

India’s trade deficit narrowed to $10.09 bn in April, down from $10.51 bn in March, and $17.67 bn a year ago. The Indian government’s net direct tax collections in April were Rs 9,590 cr, 21.48% lower than Rs 12,214 cr in the same month last year. India’s balance of payments (BoP) sharply jumped to $7.057 bn in the fourth quarter of FY14 from $2.68 bn in the same period in FY13. The RBI data showed that India’s foreign exchange reserves surged by $15.5 bn in FY14. Foreign direct investment (FDI) in India grew by 8% year-on-year to $24.3 bn in FY14. India's HSBC Manufacturing Purchasing Managers' Index (PMI) for April remained unchanged at the previous month's 51.3, while services PMI rose to 48.5 in April from 47.5 in March.

Indicators Current Previous
Monthly WPI Inflation 5.20% (April 2014) 5.70% (March 2014)
Industrial Growth -0.5% (March 2014) -1.8% (February 2014)
Exports $25.63bn (April 2014) $24.35bn (April 2013)
Imports $35.72bn (April 2014) $42.03bn (April 2013)
Trade Deficit -$10.09bn (April 2014) -$17.67bn (April 2013)
Gross Tax Collections Rs 28,794cr (April 2014) Rs 28,082cr (April 2013)

IIP Growth

IIP Growth


  • India’s Index of Industrial Production contracted 0.5% in March following an upwardly revised contraction of 1.8% in February.

IIP-Core Sector Growth

IIP Core Sector Growth

  • India’s growth in output of the eight core sectors jumped by 4.2% in April as compared to 2.5% in March

Fiscal Deficit

Fiscal Deficit

Global Economy Review

OECD trims global economic outlook

Citing some more space for a downside risk, the Organisation for Economic Cooperation and Development (OECD) lowered its growth forecast for 2014 to 3.4% from the earlier projection of 3.6%. OECD said that emerging economies such as China and Russia are becoming a drag on the global economy and advanced economies will increasingly have to drive the economic recovery. Meanwhile, the OECD area’s GDP growth slowed to 0.4% (Q-o-Q) in Q1 2014 from 0.5% in Q4 2013. In an important development during the month, the Group of Twenty (G20) major economies pledged to end heavy "mechanistic" reliance on ratings in the financial sector after bundled loans based on US mortgages became untradeable in 2007 despite being highly rated, triggering a global financial markets and banking meltdown.

World GDP Growth

World GDP Growth

Major Indicators Current Previous Major Global Central Bank Major Global Central Bank
US GDP -1% Q1 2014 2.6% Q4 2013 US Fed Funds Rate 0-0.25%
US unemployment 6.3% May 2014 6.3% April 2014 Bank of England 0.50%
UK GDP 0.8% Q1 2014 0.7% Q4 2013 European Central Bank 0.15%
Euro Zone GDP 0.2% Q1 2014 0.2% Q4 2013 Japan Benchmark Rate 0-0.10%
Japan GDP 6.7% Q1 2014 0.3% Q4 2013    
China GDP 7.4% Q1 2014 7.7% Q4 2013    
Singapore’s GDP 4.9% Q1 2014 5.5% Q4 2013    

The US Fed signals no rate hike soon

Speculation that was rife over the past couple of months came to a rest after the US Federal Reserve (Fed) signaled that it would not raise its interest rates soon. The minutes of the latest policy meeting showed that the US central bank’s members presented several approaches to raising short-term interest rates; they said that the discussion was simply prudent planning and did not imply that normalisation would necessarily begin sometime soon. On a negative note, however, the second estimate of the Q1 2014 GDP growth showed that it shrunk 1% (annual) compared with 0.1% growth in the advance estimate and 2.6% growth in Q4 2013. Meanwhile, the US Treasury posted a $106.9 bn surplus in April compared with $113 bn surplus last year.

Key US economic indicators

  • Industrial production fell 0.6% in April after an upwardly revised gain of 0.9% in March. April capacity utilisation fell 0.7% to a 78.6%.
  • Retail sales rose 0.1% in April after a 1.5% rise in March.
  • Consumer price growth accelerated annually to 2.0% in April from 1.5% in March, representing the biggest increase since last July.
  • On the housing front, the Pending Home Sales index nudged up 0.4% in April after a 3.4% increase in March while the Existing Home Sales index increased 1.3% to a seasonally adjusted 4.65 mn units in April from 4.59 mn in March.

EURO ZONE

Growth and deflation worries weigh on the Eurozone

Despite growing for the fourth consecutive quarter, the pace of growth remains lacklustre for the debt-laden Eurozone economy. The region’s GDP grew only 0.2% in Q1 2014 while growth for Q4 2013 was revised down to 0.2% from 0.3%. Risk of deflation also lingers in the bloc as despite a modest uptick in April (0.7% versus 0.5% in March), inflation remained locked in the danger zone (as called by European Central Bank or ECB) below 1%. The ECB President Mario Draghi said that the bank remains alert to the risks of a prolonged period of low inflation and expresses readiness to take action if required. Meanwhile, as per the latest move to stimulate the economy, the ECB lowered its benchmark interest rate to 0.15% from 0.25%.

Key Eurozone economic indicators:

  • External trade surplus came in at 17.1 bn euros in March compared with an upwardly revised surplus of 14.2 bn euros in February.
  • Industrial output dipped 0.1% in March after a 0.3% fall in February.
  • Retail sales rose 0.3% on the month in March after a downwardly revised 0.1% rise in February.

The UK economy improves further

The UK confirmed (in its second estimate) 0.8% growth in Q1 compared with 0.7% in the previous quarter. Over the past 12 months, the economy grew 3.1% - the biggest annual increase since the fourth quarter of 2007. In its inflation report, the Bank of England said that the UK economy continues to strengthen, but more slack needs to be absorbed before a rate increase is implemented. Budget deficit data, however, painted a bleak picture as the public sector borrowing in April rose by nearly 2% to 11.5 bn pounds.

Key UK economic indicators:

  • The UK’s visible trade deficit narrowed to 8.5 bn pounds in March compared with 8.7 bn pounds in February.
  • Industrial production fell 0.1% in March after rising 0.8% in February.
  • The UK ILO jobless rate declined to 6.8% during January to March, the lowest since February 2009, from 7.2% in October to December; the claimant count came in at 3.3% in April versus 3.4% in March.
  • Retail sales volume including automotive fuel grew 1.3% month-on-month in April, more than double the 0.5% rise in March.
  • The Consumer Price Index rose to 1.8% in April from 1.6% in March.

ASIA

China to cut reserve requirement ratio for some banks

In its latest step to spur the economy from a slowdown, China said it will cut the reserve requirement ratio for some of the nation’s banks that have extended a certain amount of loans to rural borrowers and smaller companies. The government also pledged to finetune policy when needed, while reiterating it will maintain a prudent monetary stance.

Key Chinese economic indicators

  • Exports rose 0.9% to $188.54 bn year-on-year while imports rose 0.8% to $170.09 bn, resulting in a surplus of $18.45 bn in April; the trade surplus was $7.71 bn in March.
  • The economy added 4.73 mn jobs in the first four months of 2014, which was higher by 30,000 from the same period of last year.
  • The economy added 4.73 mn jobs in the first four months of 2014, which was higher by 30,000 from the same period of last year.
  • Retail sales were up 11.9% year-on-year in April, down from a 12.2% rise in March.
  • The annual industrial output rose 8.7% in April, down from 8.8% growth in March.
  • The Consumer Price Index rose 1.8% April from a year earlier, lower than the 2.4% rise recorded in March.

Japanese economy gains traction

Strong domestic consumption and a surge in capital expenditure prompted Japan's GDP to grow 6.7% on year in Q1 2014, following the downwardly revised 0.3% gain in Q4 2013. In its latest policy meeting, the Bank of Japan (BoJ) maintained its pledge to increase the monetary base at an annual pace of 60-70 trillion yen and kept its overall assessment that the economy continues to recover moderately. Importantly, the BoJ raised its assessment of capital expenditures - a crucial driver of Japanese growth. BoJ Governor Haruhiko Kuroda also repeated his bullish view on the Japanese economy by signaling that he was not planning further monetary easing soon.

Key Japanese economic indicators:

  • Japan’s industrial output fell 2.5% in April after a 0.7% rise in March.
  • Core consumer prices jumped 3.2% in April from a year earlier compared with a 1.3% increase in March.
  • Retail sales were down 4.4% year-on-year in April compared with an 11% spike in the previous month.

Singapore’s economy grows 4.9% in Q1 2014

Singapore's economy grew 4.9% in Q1 2014 over a year ago - slightly lower than the government’s initial estimate of 5.1%. Ministry of Trade and Industry maintained its GDP growth forecast for 2014 at 2-4%. Among key economic indicators, the country’s manufacturing output grew 4.6% in April over a year ago compared with 12.1% year-on-year increase recorded in March. Retail sales decreased 3.9% on a seasonally-adjusted basis in March versus a revised 9.5% fall in the preceding month.

Domestic Fixed Income Review

Domestic G-sec Yield

6 Month Libor

Interbank call money rates moved in a broad range of 7.00-9.15% during the month. Call money rates were on the lower side earlier in the month due to the government spending and as the central bank injected Rs 75,000 cr into the system through term repo auctions on May 2. Intermittent low demand for funds from banks to cover their reserve needs amid comfortable liquidity also kept the rates lower. Call money rates, however, went up sharply as demand for funds increased to meet excise and service tax payments. However, rates were again soothed as redemption of the 6.07%, 2014 gilt resulted in an injection of Rs 27,958 cr in the banking system and a turnaround in liquidity conditions. Liquidity in the system was also supported by the oil subsidy payment by the government to oil marketing companies.

Indian government bond (gilt) prices ended lower in April, with the yield on the 10-year benchmark 8.83% 2023 paper rising to 8.83% on April 30, 2014 compared with 8.80% on March 28, 2014. Gilt market onset the month with downbeat sentiment on prospects of rising borrowing costs after the RBI cut the amount of funds banks can borrow via the LAF repo window. In its monetary policy review in March, the central bank reduced the amount of funds that a bank can borrow via the LAF repo window to 0.25% of the bank's net demand and time liabilities even as it kept its key policy rate unchanged at 8.0%. Gilt prices also came under pressure due to a rise in the WPI inflation data which stoked the fear that the central bank might not be done with monetary tightening just yet. Gilt prices were also dented by inflation fears after the IMD forecasted below average rainfall and a weak rupee during the month.

Indian government bond (gilt) prices rose sharply in May, with the yield on the 10-year benchmark 8.83% 2023 paper declining to 8.64% on May 30, 2014 compared with 8.83% on April 30, 2014. Gilt prices advanced earlier following the rise in equity share indices and rupee appreciation led by positive outcome from general election results. Sentiments were boosted on hopes that the new government will be enforcing fiscal discipline. These hopes were reinforced after the newly appointed Finance Minister Arun Jaitley assured investors that he would focus on bringing down fiscal deficit and tackling high inflation. An unexpected reduction in WPI-based inflation in April also brought cheer to investors. Gilts maintained positive momentum after the RBI set lower-than-expected yields at Rs 16,000 cr gilt auction on May 23. Intermittent value buying by participants also augured well for the gilts. The aggressive cut-off yield set for the auction of Andhra Pradesh state development loans (SDLs) coupled with improvement in liquidity and the buying support from public sector banks also supported bond prices.

Further gain in gilt prices was capped on concerns about the heavy supply of gilts via weekly auctions. Gilt prices also fell on caution ahead of US Fed Chief Janet Yellen’s testimony before the Congressional Committee. Sentiments were dented further following the release of higher CPI (combined) inflation data. Caution ahead of the RBI’s monetary policy review in the first week of June too weighed on gilt prices.

Among key developments, the RBI invited comments on draft guidelines for allowing partial credit enhancements to corporate bonds; it also revised the shutdown period for trading and settlement of government securities held in Subsidiary General Ledger (SGL) accounts and stock certificates. The RBI advised corporates to voluntarily access the bond market for meeting their financial needs as this would lead to development of the market.

On the banking front, the RBI asked banks not to levy penalties on customers who do not maintain a minimum balance in any inoperative account as part of a consumer protection initiative. The RBI directed banks not to levy any penalty on individual borrowers for pre-paying floating loans. It said that banks can give up to 10-year loans to good exporters; it also authorised banks to convert the credit balance in any inoperative foreign currency denominated deposit into rupees in a bid to manage unclaimed deposits. The RBI said that companies will not be allowed to raise external commercial borrowings (ECBs) from overseas branches and subsidiaries of Indian banks for the purpose of refinance and repayment of rupee loans in case of (among others) infrastructure financing. The RBI also advised NBFCs that all transactions, including payment of interest on deposits, charging of interest on advances, should be rounded off to the nearest rupee.

 

Fixed Income Indicators

Rates & Liquidity

  30-May-14 1 Week Ago 1 Month Ago
Repo 8.00 8.00 8.00
Reverse Repo 7.00 7.00 7.00
CRR 4.00 4.00 4.00
LAF o/s Repo (Rscr) 6,159 11,701 21,690
LAF o/s Rev Repo (Rscr) 6,502 745 1,475

Overnight                                                   Rate(%)

  30-May-14 1 Week Ago 1 Month Ago
Mibor 7.92 7.95 8.70
Call 7.30 8.40 9.00
CBLO 7.58 8.01 8.73
OIS 1Y 8.38 8.39 8.60
OIS 5Y 8.10 8.15 8.37
 

CDs                                                                       Yield(%)

  30-May-14 1 Week Ago 1 Month Ago
1-Month 8.21 8.32 8.79
3-Month 8.52 8.64 9.07
6-Month 8.85 8.87 9.20
1-Year 9.00 9.00 9.20

CPs                                                   Yield(%)

  30-May-14 1 Week Ago 1 Month Ago
1-Month 8.39 8.51 9.02
3-Month 8.80 8.84 9.35
6-Month 9.22 9.27 9.55
1-Year 9.45 9.44 9.58
 

Short Term Bonds                                                       Yield(%)

  30-May-14 1 Week Ago 1 Month Ago
1 Y G-Sec 8.29 8.34 8.59
1 Y AAA 8.83 8.86 9.38
1 Y AA 9.34 9.37 9.89
2 Y G-Sec 8.42 8.40 8.62
2 Y AAA 9.00 9.04 9.36
2 Y AA 9.49 9.53 9.85

Long Term Bonds                                                   Yield(%)

  30-May-14 1 Week Ago 1 Month Ago
5 Y G-Sec 8.54 8.57 8.80
5 Y AAA 9.23 9.27 9.49
5 Y AA 9.88 9.92 10.14
10 Y G-Sec 8.64 8.64 8.83
10 Y AAA 9.28 9.35 9.51
10 Y AA 10.09 10.16 10.32
 

Top 5 Graded G-Secs                                         Yield(%)

  30-May-14 1 Week Ago 1 Month Ago
8.83% CGL 2023 8.64 8.67 8.83
08.28% CGL 2027 8.79 8.85 9.12
08.24% CGL 2027 8.78 8.86 9.12
08.12 GS 2020 8.70 8.72 8.93
08.35% CGL 2022 8.67 8.70 8.92

Currency

  30-May-14 1 Week Ago 1 Month Ago
USD/INR 59.09

58.52

60.34

EURO/INR 80.34 79.81 83.31
GBP/INR 98.91 98.67

101.45

100 JPY/INR 58.10 57.57 58.93
USD/EURO 0.73 0.73 0.72
 

 

10 Year G-sec movement

 

Corporate Bond Yield

 

Corporate AAA, AA Bond Spreads

Economic Events Calendar

June 11, 2014
  • US Treasury Budget, May
  • UK Labour Market Report, May
  • Japan’s Machine Orders, April
June 26, 2014
  • US Personal Income and Outlays, May
  • UK GDP, Q1 2014 (final estimate)
  • Japan Consumer Price Index, May
  • Japan Unemployment Rate, May
June 12, 2014
  • US Retail Sales, May
  • US Import and Export Prices, May
  • US Business Inventories, April
  • Euro zone Industrial Production, April
  • Bank of Japan Monetary Policy Review
June 27, 2014
  • US Consumer Sentiment - final, June
  • Euro zone Economic Sentiment, June
June 13, 2014
  • US Producer Price Index, May
  • US Consumer Sentiment, June
  • Euro zone Merchandise Trade, April
  • China’s Industrial Production, May
  • China’s Retail Sales, May
June 30, 2014
  • US Chicago PMI, June
  • US Pending Home Sales Index, May
  • Euro zone Consumer Price Index, June
  • China Manufacturing PMI, June
  • Bank of Japan's Tankan survey, Q2
June 16, 2014
  • US Industrial Production, May
  • US Empire State Mfg Survey, June
  • US Treasury International Capital, April
  • US Housing Market Index, June
  • Euro zone Consumer Price Index, May
July 1, 2014
  • US ISM Manufacturing Index, June
  • US Construction Spending, May
  • US Motor Vehicle Sales, June
  • Euro zone Manufacturing PMI, June
  • Euro zone Unemployment Rate, May
  • UK Manufacturing PMI, June
June 17, 2014
  • US Consumer Price Index, May
  • US Housing Starts, May
  • UK Consumer Price Index, May
  • UK Producer Price Index, May
  • Bank of Japan Monetary Policy Minutes
  • Japan Merchandise Trade, May
July 2, 2014
  • US Federal Reserve Chair’s Speech on Monetary Policy
  • US ADP Employment Report, June
  • US Factory Orders, May
  • Euro zone GDP, Q1 2014 (final estimate)
  • Euro zone Producer Price Index, May
  • Japan Composite PMI, June
  • China Composite PMI, June
June 18, 2014
  • US FOMC Meeting Announcement / Forecast
  • Bank of England Monetary Policy Minutes
July 3, 2014
  • US Employment Situation, June
  • US International Trade, May
  • US Jobless Claims
  • US Services PMI, June
  • US ISM Non-Mfg Index, June
  • Euro zone Composite PMI, June
  • Euro zone Retail Sales, May
  • UK Services PMI, June
June 19, 2014
  • US Philadelphia Fed Survey, June
  • UK Retail Sales, May
July 8, 2014
  • UK Industrial Production, May
  • China Consumer Price Index, June
June 23, 2014
  • US Existing Home Sales, May
  • US PMI Manufacturing Index, June
  • Euro zone PMI Composite, June
July 9, 2014
  • US FOMC Minutes
  • Japan Producer Price Index, June
  • Japan Machine Orders, May
  • Japan Tertiary Index, May
June 24, 2014
  • US New Home Sales, May
  • US S&P Case-Shiller HPI, April
  • US Consumer Confidence, June
July 10, 2014
  • US Jobless Claims
  • Bank of England Monthly Announcement
  • UK Merchandise Trade, May
June 25, 2014
  • US GDP, Q1 2014 (Final)
  • US Durable Goods Orders, May
  • US Services Flash PMI, June
July 11, 2014
  • US Treasury Budget, June

US Fixed Income Markets - Overview

US treasury prices rose during the month with the yield on the 10 year benchmark bond falling to 2.46% on May 30 from 2.65% on April 30 due to some weak US economic indicators, hopes of stimulus measures from the euro zone and on Russian-Ukraine geo-political concerns. Sentiment for bonds improved on dovish comments by the US Federal Reserve (US Fed) Chief Janet Yellen earlier in the month. Discouraging US economic data including that of GDP contraction in Q1 and slowdown in monthly retail sales and industrial output growth also led to the rise in bond prices. Tensions between Russia and Ukraine increased the safe-haven appeal of bonds. Bond prices also gained momentum on expectations that the ECB will cut interest rates in June as the region grapples with low inflation. However, any further rise in bond prices was capped after the US Federal Reserve's meeting minutes showed that the central bank's members presented several approaches for raising short-term interest rates, but said the discussion was simply "prudent planning" and not a sign that rate hikes would come any time soon.

US 10 Year Govt. Bond Yield

 

Learning Centre– Risks Associated with Debt Mutual Funds

Investing in debt mutual funds helps investors earn higher tax adjusted returns vis-à-vis traditional fixed income products. However, investors should note that compared with bank fixed deposits, debt mutual funds are relatively more risky products. This month’s article sheds light on some of the most common risks associated with debt investments.

Interest rate risk: Investors are exposed to interest rate risk when holding bonds because bond prices are inversely related to interest rates. To illustrate this relationship, consider an investor who holds a bond that yields 10%. If the interest rate prevailing in the market rises to 11%, investors rush to purchase the higher yielding bond, thereby reducing the price of the lower yielding security. Longer maturity bonds typically are more sensitive to interest rate changes.

Liquidity risk: Liquidity refers to how easily a bond can be sold for cash. In some cases, it may be difficult to reduce debt holdings in the portfolio because there aren’t enough buyers on the market. Due to lack of liquidity, fund houses may be forced to divest their debt holdings at a lower than expected price.

Credit risk: Credit risk refers to the probability of a bond issuer being unable to repay bondholders the principal amount and accrued interest on time and in full. This risk is also called the default risk. While government securities are free of credit risk, the same cannot be said for corporate bonds. Investors need to be mindful of the credit rating assigned to debt securities in a bond portfolio. A higher credit rating implies better credit quality and a higher ability to repay investors (lower credit risk). Conversely, a credit rating downgrade may cause prices of bonds in a debt portfolio to decline.

Reinvestment risk: It is the risk that future coupons from a bond will not be reinvested at the interest rate prevailing when the bond was initially purchased. Reinvestment risk typically comes into the picture when interest rates are on an easing trend.

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