Broadening inflation, Fed prompts traders to ramp up October India rate hike bets

Traders are growing confident about an upcoming October rate hike by India's Reserve Bank, driven by rising oil prices and increasing inflation, further exacerbated by a looming Federal Reserve hike. Key interest rates have climbed, with the one-year overnight index swap rate reaching 6.11% and the five-year rate increasing by 11 basis points.

Traders predict at least three 25-basis-point rate hikes within the next year. The one-month OIS, a more precise indicator of October expectations, has jumped 10 basis points to 5.34%, suggesting a significant possibility of a 25-basis-point hike. However, this assessment may be understated, as overnight rates are currently below the repo rate due to a surplus in liquidity.

All four traders, who preferred anonymity, stated that an RBI rate increase in October is highly likely, while some economists have pushed their forecasts forward to October 7. Citi's analysts declared an October rate hike as their base case, moving their previous forecast from December due to a less favorable inflation outlook.

India's core inflation has intensified, with August figures more than doubling the two-year average, raising concerns about potential demand-side pressures. September inflation is expected to reach 5.7%, close to the RBI's 6% upper limit, complicating the central bank's ability to maintain current rates. Deutsche Bank has also shifted its outlook, bringing forward its rate hike expectation to October from December.

They cite the acceleration in headline inflation to around 5% and the widening of core inflation, coupled with a promising April-June GDP print amid an impending Fed hiking cycle. The RBI has not yet acted on the oil crisis, unlike other Asian nations that have raised rates in response to energy price shocks.