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Signs of a de-escalation in geopolitical risks helped calm benchmark oil prices and risk sentiments by mid-week. This brought focus back to domestic catalysts. The RBI’s plans to conduct a 7-day variable reverse repo rate (VRRR) auction worth INR 1trn on Friday, a first since November 2024, as we discussed in Short-end rates drift up. While banking system is in a comfortable surplus, this move to absorb excess liquidity is likely intended to align the overnight borrowing costs back to the policy rate, vs way below at this point. The weighted average call money rate hovered around an average of 30-50bp below the repo rate in the past week. In our view, the step to conduct VRRR is neither a reversal/shift in the policy stance nor marks a change in the liquidity view, but is rather a move to maintain the sanctity of the LAF corridor. RBI Governor Malhotra had also alluded to such in RBI clarifies amidst policy debate. Durable liquidity will receive a hand from the already-announced phased reduction in the CRR (Cash Reserve Ratio). At the same time, authorities have gradually rolled back steps to inject fresh liquidity, marked by discontinuing daily VRR, besides cancelling consecutive 14-day auctions. It has now been decided to do away with the 14-day VRR auction. In the near-term, further pullback in the 10Y bond yield is likely to be limited after a sharp correction earlier in the week on improved risk sentiments.
An eye will also be on global crude prices, after prices retreated amidst signs of a ceasefire in the Middle East. Brent, which had briefly crossed $80pb earlier this week, is back in the $70 handle, albeit still higher than average $66pb in Apr-May25. India is the third largest oil consumer globally, with a heavy reliance on crude imports. We discussed the macroeconomic impact in Rate pause amidst strong foreign reserves, eye on oil. Total trade with the GCC countries remains material (~15% of total trade) led by energy, machinery, gems & jewellery etc, that with Israel is relatively significant (India is one of its key trading partners), while that with Iran (led by food exports and petroleum product imports) has diminished in the past five years owing to the long-standing US sanctions. An increase in freight costs and insurance premiums are other channels by which traders on both sides could feel the heat if geopolitical risks resurface. The INR has endured a choppy ride this month, with the recent upheaval pushing the currency back below 86.0, before gaining modest ground on the de-escalation. DBS FX Strategist sees the scope for USD/INR to consolidate in an 84-86 range with a downside bias, aligning with its historical tendency to regain equilibrium after sharp currency movements.
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