With the Government’s intention to open up the economy and the Central Bank of Sri Lanka (CBSL) push to lower interest rates, there are caps being imposed on the recent Bill and Bond auctions which illustrates the intention of the CBSL to maintain lower rates in order boost economic activity and growth, says First Capital Research.
“Considering the risks in the system and the worsening macro indicators we prefer to maintain our bond yield bands at the mentioned levels in the previous slide”
However, with the lacklustre 2Q & 3Q, possible further increase in CBSL Holdings while also considering the intentions and the new rules of the CBSL to push rates lower, First Capital Research highlights that short-midterm yields may decline by 25-50bps for a very limited period.
On June 16 2020 CBSL reduced the SSR by 200bps from 4% to 2%. The reduction is expected to release over Rs 115 billion of liquidity into the banking system, allowing banks to accelerate credit flows into the economy, while reducing cost of funds.
We expect Rs 100 billion top-up, in the existing refinance scheme which may enhance additional liquidity to the domestic money market above Rs 250 billion. At the current level of Rs 221billion ( June 17) excess liquidity is already at a 16-year high.
Further top-up in the existing refinance scheme may push CBSL Holding (printed money) closer to Rs 500 bn from current Rs 317bn.
CBSL presumes the excess liquidity may factor in as a stimulus for SLCB’s to lend to businesses in support of government’s efforts to revive the economy.
On the contrary, SLCB’s may expedite this as an opportunity to position in either short term treasury instruments or under SDF facility interest rate deriving a substantial interest on the deposit. Thereby, the possibility exists that bulk of the money may not move into the revival of businesses via credit schemes, therefore, the intention of CBSL may not materialize.
“We believe that the Central Bank is yet again in a vulnerable position and the possibility of a policy rate cut is on the cards in order to push banks to consider the lending opportunities.”
First Capital Research allocates a policy rate cut expectation of 100bps bringing the SDFR and SLFR to 4.50% and 5.50%, respectively. Despite prevailing the low interest rate environment it will have a ripple effect on the overall economy.
“In our previous recommendation we expected a further surge in liquidity in 2Q-3Q which may bring yields by 25-50bps. However, the current SRR cut, possible policy rate cut, and additional Rs 100 bn funding may bring the yields further down, thereby we bring down our bond yield bands by 125-150 bps, “ the FC Research said.
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