The unfortunate terrorist attacks on select US centres has spread panic across the global financial markets. We attempt to highlight the possible impact on the domestic bond market arising from this adverse global event.
Firstly, the dollar could lose globally and is already over 1% down post-event against the yen and euro. There has been a shift into safer assets and bond markets worldwide are likely to gain due to the imminent shift from equity to fixed income markets. The Federal Reserve has promised contingency liquidity support and there are chances that the Fed could reduce the benchmark rates further to ease the strain on the already beleaguered US economy.
Secondly, the terrorist attack has already had a sentiment driven impact on the oil prices. It is still unclear where these attacks have originated from, but any significant retaliation by US could have a lasting impact on the oil prices. This could impact the rupee as oil forms nearly 30% of the total imports. The oil prices after rising 4$/barrel immediately after the attacks have subsequently declined by 2$ as OPEC has stated that it is committed to maintaining the supply and prices in the critical US$ 22-28 band.
Thirdly, the global economy could suffer as US recovery could get delayed further in the near term as economic activity takes a back seat to politics and international relations. Indian exports could also suffer as US accounts for nearly a quarter of our exports.
Fourthly, there is a risk of portfolio outflows as investors' worldwide shift to safe haven currencies and bonds. This could be adverse for capital flows.
Although some of these factors are negative from the currency market perspective, the dollar's weakness globally means that the rupee has adjusted in the REER terms. The RBI with over US$ 45 billion of forex reserves would not hesitate to use them in case of any panic in the currency markets.
Overall, the liquidity in the system continues to remain positive. The bond prices after falling by nearly 60-70 paise in the late evening have risen back by 40 paise. The rupee has remained stable at 47.44 levels. In the near term we do not see any cause of panic and would expect the bond market to stabilize at the current levels. However, we would continue to watch international developments closely and would exercise caution in our portfolio action.