Indian rupee, bonds to track oil prices; local and US inflation data in focus

Mumbai: Oil prices will dictate the value of the Indian rupee and government bonds this week, amidst uncertainty in the Middle East, as traders keep an eye on July inflation data from India and the US for clues on potential interest rate adjustments. The Indian rupee concluded at 95.2075 per dollar on Friday, up around 0.2% on a weekly basis.

Friday's data revealed an unexpected loss of jobs in the US economy in July, prompting traders to revise down Fed rate-hike predictions, which in turn reduced Treasury yields and the dollar's value. Meanwhile, Iran reported that a deal on new shipping lanes in the Strait of Hormuz is nearing completion, but reiterated that the critical energy route will reopen only after the US satisfies certain conditions.

Energy price volatility due to Middle East uncertainty has kept traders' attention on inflation trends, with both the US and India preparing to release consumer inflation data this week. According to a Reuters survey of 40 economists, India's inflation rate, as measured by the annual change in the consumer price index (CPI), is expected to increase to 4.50% in July from 4.38% in June.

The Reserve Bank of India (RBI) decided to keep policy rates steady last week. According to analysts at ANZ, the central bank is expected to implement at least two 25-basis-point rate hikes starting in December 2026. ANZ analysts believe that rising inflation expectations, high global commodity prices, and robust domestic demand could lead to faster-than-anticipated inflation, surpassing the RBI's current expectations.

Government bonds are anticipated to stay within a limited range after a modest recovery the previous week, as market participants await domestic inflation data. Bond yields experienced their first drop in five weeks, aligning with a decline in oil prices and a dovish shift in RBI policy. The 10-year benchmark yield closed at 6.7651% on Friday, down 7 basis points for the week, following a 12-basis-point rise in the previous four weeks.

Traders anticipate the benchmark yield to fluctuate between 6.74% and 6.82% during the week. The RBI reduced its forecast for core inflation by 40 basis points to 4.3% for the current fiscal year and modestly decreased the headline inflation projection by 10 basis points to 5%. RBI Governor Sanjay Malhotra stated that the central bank would provide ample liquidity in the banking system.

Vishal Kaushal, head of global markets for India at Crédit Agricole CIB, noted that the key indicator was the RBI's readiness to overlook temporary supply-side inflation shocks unless they become widespread and persistent. Geopolitical events in the West Asia and their effect on commodity prices and global yields are likely to mainly influence the direction of bond yields in the coming period.