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FIXED INCOME UPDATE – FEB ‘17 1 Benchmark 10 year bond has seen a sharp rally in recent months • Rally driven by a host factors – demonetization led liquidity, fall in CPI, Dec RBI policy • Yields rose by 33 bps post Feb policy surprise • Also helped by weak global growth/rates 7.84% 8.00 7.50 7.00 6.74% 6.50 6.00 5.50 10 yr G-Sec yield 5.00 Feb-16 May-16 Aug-16 2Source of Data: Bloomberg, Data for the period February 8th ‘16 to Feb 8th, 2017 Nov-16 Feb-17 2 RBI Feb ’17 policy update and way forward • RBI surprised markets by holding rates unchanged; stance changed from accommodative to neutral • Core inflation has been sticky at just below 5% • Demonetization impact seen as transitory both on growth and inflation Way forward 3 • Neutral stance supports our view that we are approaching the end of the rate cut cycle • Short bonds can potentially outperform long bonds • Short end also benefits from abundant liquidity; is relatively insulated from the risks of global rates and inflationary pressures • If inflation is indeed contained to 4% on a sustainable basis, yields can drop materially over the next couple of years 3 Market drivers and its impact on FI Markets 1. Union Budget & Fiscal Policy - Sticking to FRBM has its benefits 2. Monetary Policy & Rates - RBI approaching end of easing cycle 3. Liquidity & Spreads - Abundant system liquidity, aids short term bonds 4. External & Macro - India’s macro conditions and external position vastly improved 5. Growth & Consumption - Consumption recovering from demonetization 4 4 #1. Union Budget & Fiscal Policy 5 4 Backdrop to the Budget • The center has been sticking to the target, but states stepping out • Historically High Debt to GDP Ratio Centre & State fiscal deficit (% to GDP) Public Debt to GDP 100 0.0 90 (1.0) 68% 80 (2.0) (3.0) 70 (2.7) (2.8) (2.9) (4.0) (3.1) 60 (3.0) 50 (3.6) 40 (5.0) 30 (6.0) 20 Source: Axis Capital 6 FY16 FY15 FY14 FY13 FY12 FY11 FY10 FY09 FY08 FY07 FY06 FY05 FY04 FY03 FY02 0 FY01 Mar-18E Mar-17E Mar-16 State Fiscal Deficit 10 FY00 Center Fiscal Deficit Mar-15 Mar-14 Mar-13 (% to GDP) Mar-12 (7.0) 6 Budget ’17: Government continued the path of fiscal consolidation – stress on macro stability • Sticking to the path of deficit reduction, fiscal deficit target for FY 17 set at 3.2% • Targets to bring down Debt to GDP ratio to 60% by 2023 In Rs. crores Net market borrowings Fiscal Deficit & 10 Year G-sec 7 500,000 (% of GDP) (%) 13 450,000 400,000 11 350,000 5 300,000 9 250,000 200,000 3 150,000 7 100,000 50,000 Net market borrowings 1 5 Mar-00 Mar-01 Mar-02 Mar-03 Mar-04 Mar-05 Mar-06 Mar-07 Mar-08 Mar-09 Mar-10 Mar-11 Mar-12 Mar-13 Mar-14 Mar-15 Mar-16 Mar-17RE Mar-18BE Mar-99 Mar-00 Mar-01 Mar-02 Mar-03 Mar-04 Mar-05 Mar-06 Mar-07 Mar-08 Mar-09 Mar-10 Mar-11 Mar-12 Mar-13 Mar-14 Mar-15 Mar-16 Mar-17RE Mar-18BE 0 Fiscal Deficit RE: Revised Estimates; BE: Budget estimates Source: Axis Capital, Budget Documents 7 10 Gec (RHS) 7 Controlling Fiscal Deficit has helped in containing inflation • Recent softening in inflation at a broad level is linked to Aggregate Demand (in- turn driven by Government consumption/fiscal borrowing) Relation between Inflation and Fiscal Deficit 16% 14% 12% 10% 8% 6% 4% 2% Combined Fiscal Deficit CPI 0% 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 Source: Internal, Acumen – The Importance of Being Prudent 8 8 #2. Monetary Policy & Rates 9 9 Near-term inflation to remain within target range • Inflation had eased sharply over the past couple of months owing to good monsoon and demonetization • Likely to normalise going forward with core sticky at 5% 10 9 8 7 6 5 4 3 2 1 0 Jun-14 10 Source of Data: Bloomberg. Inflation ( Core CPI & Food) Dec-14 Jun-15 Core CPI (less food & fuel) Dec-15 Jun-16 Food & Beverages Dec-16 10 RBI approaching end of easing cycle • Policy rate of 6.25% provides limited cushion over inflation range (4%+/-2%) 175 bps cut since Jan ‘15 400 8.50 Repo Spread over Inflation 350 8.00% 300 8.00 250 7.50 200 150 7.00 6.25% 100 6.50 50 6.00 Dec-14 Jun-15 11 Source of Data: Bloomberg. Dec-15 Jun-16 Dec-16 0 Dec-14 Jun-15 Dec-15 Jun-16 Dec-16 12 Inflation if contained below 4% on a sustainable basis, may lead to more rate cuts in future Inflation roadmap for RBI Monetary policy loses credibility on sustained 12% double digit inflation RBI sets glide path for achieving sustained lower inflation New Monetary Policy Framework 10% Initial Target – 8% 8% Intermediate Target – 6% 6% Formal Inflation Target of 4% +/- 2% 4% 2% 0% 2012-14 Source of Data: Bloomberg 12 2014-17 April 2017 onwards 11 #3. Liquidity & Spreads 13 13 Abundant system liquidity here to remain, aids short term bonds • Structural liquidity to improve in medium term as cash leakage is lower Demonetization led liquidity System Liquidity (Surplus/Deficit) 800,000 700,000 600,000 500,000 400,000 300,000 200,000 100,000 (100,000) (200,000) Jan-15 Jul-15 Jan-16 Jul-16 Jan-17 30-day rolling average Source of Data: Internal 14 14 AAA Yields down sharply, incremental opportunities in AA and A segment 3 Year AAA Corporate Bond 9.00 8.50 8.00 7.50 AAA Yields down sharply 7.00 6.50 6.00 Feb-15 3 Year AAA Coporate Bond Aug-15 Feb-16 Aug-16 Feb-17 Spread - 3 Year AA over AAA 100 80 60 40 Incremental opportunities in AA and A segment 20 Spread - 3 Year AA over AAA 0 Feb-15 Aug-15 Source: Bloomberg. Data since Feb ‘15 till date 15 Feb-16 Aug-16 Feb-17 15 #4. External & Macro 16 16 India’s macro conditions vastly improved – provide insulation during global EM risk-off phases Post Global recession (2010) Taper crisis (2013) GDP* 8.5% 5.1% 7.3% CPI Inflation 9.4% 9.5% 3.6% FX Reserves ($bn) 297.3 275.5 360.8 Current Account Deficit -3.3% -4.7% 0.6% Fiscal deficit Target -6.5% -4.8% -3.2% Crude Oil (per barrel) $94 $116 $54.7 Source of data: ACEMF, Bloomberg, RBI, BIS 2010 refers to Dec 31st 2010, 2013 refers to 31st Aug 2013 and current refers to latest data available as on Feb 1 st, 2017 *17 GDP New Series. Figure for July to September 2016 Current (Jan-17) 17 India has been an outlier among EM currencies Currency performance Currency v/s US Dollar (3 months) 10% 5% 5% 1% 0% 0% -1% -1% -2% -2% -3% -5% -5% -10% -15% -20% Source of data: Bloomberg. Data as on 31st January 2017 Past 18 performance may or may not be sustained in future. Turkey Malaysia Philippines Indonesia India Singapore Thailand South Africa Brazil Russia -18% 18 External position remains strong, RBI has been proactive in reserve management • India has seen 2nd highest reserve accretion globally • Balance of payments has shown steady improvement • FCNR redemption went through smoothly Balance of payments and Current Account Deficit Top & Bottom 5 countries 2 Yr Chg in Foreign Ccy Reserves* Switzerland India Hong Kong Korea UAE Singapore Malaysia Russia S Arabia China -800 -600 -400 -200 0 200 USD Bn Source of Data: Credit Suisse *191-Jan-14 to 30-Jun-16 19 #5. Consumption & Growth 20 20 Consumption recovering from demonetization India base power demand growth (%YoY) 20% 15% 10% 5% 0% -5% -10% Nov-12 Nov-13 Nov-14 Nov-15 Nov-16 India base power demand growth (%YoY) 21 21 Consumption recovering from demonetization (2) Petrol & Diesel Consumption (3mma) 16% Commercial vehicle sales (3mma) 30% 14% 12% 20% 10% 10% 8% 0% 6% -10% 4% -20% India petroleum products consumption (YoY 3mma) Dec-16 Dec-15 Dec-14 -4% -30% Dec-13 Dec-16 Jun-16 Dec-15 Jun-15 -2% Dec-14 0% Dec-12 2% CV (3mma) India High Speed Diesel Consumption (YoY 3mma) Source of data: Bloomberg, Ambit Capital 22 22 Manufacturing sentiment picking up India Manufacturing PMI India Services PMI 56 56 54 54 52 52 50 48 50 46 48 44 46 42 44 40 Jul-13 Jan-14 Jul-14 Jan-15 Jul-15 Jan-16 Jul-16 Jan-17 Jul-13 India Manufacturing PMI (3 month average) 23 Source of data: Ambit Capital Average Feb-14 Sep-14 Apr-15 Nov-15 Jun-16 Jan-17 India Services PMI (3 month average) Average 23 Lower deposit rates owing to surge in deposits post demonetization 25% Credit & Deposit Growth (Y-o-Y) SBI 3 Year Deposit Rate 20% 9.0% 15% 8.0% 10% 7.0% 5% 6.0% 0% Nov-11 Nov-12 Nov-13 Nov-14 Nov-15 Non-Food Credit y/y % Aggregrate Deposits y/y % Source of data: Bloomberg, Citi 24 Nov-16 5.0% Jan-11 6.5% Jan-12 Jan-13 Jan-14 Jan-15 Jan-16 Jan-17 SBI 3 Year Deposit Rate 24 Spread compression in 1-2 yr segment • Downward trend in the spreads • Easy liquidity • Lack of assets Further compression is expected 10.5 10.0 9.5 Yield 9.0 8.5 8.0 7.5 1yr CD 7.0 2yr AAA PSU Operative rate 6.5 25 Source : Bloomberg Jan-17 Oct-16 Jul-16 Apr-16 Jan-16 Oct-15 Jul-15 Apr-15 Jan-15 Oct-14 Jul-14 Apr-14 Jan-14 Oct-13 6.0 25 Short Term Funds well positioned to benefit from liquidity & spreads Category & Risk Return Tradeoff Average CAGR Returns (3 yr) Ann. Average Standard Deviation (3 yr) Expectation Outlook 0.2% Ample liquidity to aid CD rates Positive but limited due to maturity cap of 91 days 9.8% 1.2% Ample liquidity to aid short term rates Positive 11.1% 2.3% Limited room for rate cuts Positive but limited Liquid Low Risk; Low Return 8.3% Short Term Medium Risk; Medium Return Income High Risk; High Return Source of data: Value research categories. Returns and Standard deviation for Direct Plans for 31 st Jan 2014 to 31st Jan 2017 26 26 Our Recommendations • Short- end of the curve is strongly recommended (play on liquidity) • Investor should look to invest in short to medium term funds as a core portfolio allocation • Investors looking to take duration exposure can look to do it through funds having dynamic duration management • Incremental focus will remain on moving from duration to higher yielding short term corporate bonds over the next few months • To be incrementally added across portfolios wherever mandate permits 27 27 Statutory Details and Risk Factors Disclaimer: Past performance may or may not be sustained in the future. Sector(s) / Stock(s) / Issuer(s) mentioned above are for the purpose of disclosure of the portfolio of the Scheme(s) and should not be construed as recommendation. The fund manager(s) may or may not choose to hold the stock mentioned, from time to time. Investors are requested to consult their financial, tax and other advisors before taking any investment decision(s). Statutory Details: Axis Mutual Fund has been established as a Trust under the Indian Trusts Act, 1882, sponsored by Axis Bank Ltd. (liability restricted to Rs. 1 Lakh). Trustee: Axis Mutual Fund Trustee Ltd. Investment Manager: Axis Asset Management Co. Ltd. (the AMC) Risk Factors: Axis Bank Limited is not liable or responsible for any loss or shortfall resulting from the operation of the scheme. This document represents the views of Axis Asset Management Co. Ltd. and must not be taken as the basis for an investment decision. Neither Axis Mutual Fund, Axis Mutual Fund Trustee Limited nor Axis Asset Management Company Limited, its Directors or associates shall be liable for any damages including lost revenue or lost profits that may arise from the use of the information contained herein. No representation or warranty is made as to the accuracy, completeness or fairness of the information and opinions contained herein. The AMC reserves the right to make modifications and alterations to this statement as may be required from time to time. Mutual Fund Investments are subject to market risks, read all scheme related documents carefully. Source of Data: Bloomberg, RBI, ACEMF Data as on January 31st , 2017 unless specified differently 28