Unlocking tactical opportunities in a dislocated bond market: Axis MF

Despite a supportive macroeconomic backdrop—rate cuts by the Reserve Bank of India (RBI), an upgrade in India’s sovereign credit rating, and subdued inflation—bond markets have been experiencing significant dislocation, according to the latest Acumen note by Axis Mutual Fund Research.

The Backdrop

India’s bond market volatility has puzzled investors. RBI implemented a 50 basis point (bps) policy rate cut in June 2025, followed by a 100 bps reduction in the Cash Reserve Ratio (CRR).

Around the same time, S&P upgraded India’s sovereign rating to BBB from BBB-, while headline inflation cooled to an eight-year low of ~1.55%.

Yet, bond yields rose sharply—by 30–50 bps across the curve—with long-duration government securities hit the hardest. Axis MF attributes this divergence to structural imbalances, fiscal expectations, and regulatory shifts.

Key Drivers Behind Rising Yields

The Acumen report outlines several catalysts behind the bond market sell-off:
Liquidity & Rate Cycle: Surplus banking liquidity, combined with expectations that the easing cycle is ending, steepened the yield curve.

Demand-Supply Gap: Central and state bond auctions faced a shortfall of over ₹1 trillion in demand, pressuring yields higher.Fiscal Concerns: Anticipated fiscal loosening, including a possible GST cut, has raised fears of higher government borrowing.Regulatory Shifts: Changes in pension fund norms and banks’ Held-to-Maturity (HTM) limits reduced demand for long-dated securities, while higher State Development Loan (SDL) supply added pressure.

RBI Stance & OMO Expectations: After front-loaded cuts, RBI’s cautious messaging and reduced likelihood of open market operations removed a crucial demand cushion.

Tactical Opportunities Emerging

While structural challenges remain, the sell-off has also created attractive entry points. Yields on long-term government bonds have reverted to pre-cut levels, offering tactical opportunities for investors.

Axis MF Research highlights the possibility of a 15–25 bps rally in long-duration bonds in the near term, driven by:

Global Shifts: A dovish turn by the US Federal Reserve amid unemployment concerns.

Domestic Growth Headwinds: Potential tariffs or slowing growth that could push RBI to act further.

RBI Intervention: Targeted open market operations or recalibrated auction calendars to reduce long-end issuance.

Investor Takeaways

The Acumen note suggests that despite supply-demand mismatches and the likely end of India’s easing cycle, current market dislocation presents a compelling tactical window. Informed investors could look to capture short-term gains from a rally in long-duration bonds, even as structural headwinds persist.

Source: Acumen – Unlocking Tactical Opportunities in a Dislocated Bond Market, Axis Mutual Fund Research, August 28, 2025.

(Disclaimer: Recommendations, suggestions, views, and opinions given by experts are their own. These do not represent the views of the Economic Times)