Debt Market Review

Mr. Avnish Jain
Head - Fixed Income

Macro Review & Fixed Income Market Outlook
Global Economy Update:
Macro Backdrop:
• Global activity remained moderate but fragile through September 2025. Advanced-economy manufacturing remained soft while services and domestic demand in several emerging markets supported growth.

Purchasing Managers’ Index (PMI):
• United States:The U.S. manufacturing sector contracted in September 2025 for the seventh consecutive month after two months of expansion preceded by 26 months of contraction.
• The Manufacturing PMI registered 49.1 percent in September 2025, a 0.4-percentage point increase compared to 48.7 percent recorded in August 2025.
Eurozone: The HCOB (Hamburg Commercial Bank) Eurozone Manufacturing PMI fell to 49.8 in September of 2025 from the three-year high of 50.7 in the previous month, revised slightly higher from the flash estimate of 49.5 but still firmly below the initial market consensus of 50.7.
• The result extended the period of consistent contractions in the bloc’s factory activity, with the exception of last month, that started in June of 2022 when Russia’s invasion of Ukraine triggered shortages of key raw materials.

Trade:
The U.S. tariff program introduced in August continued to be implemented through September and has generated substantial tariff receipts, with reported monthly tariff revenue running at historically high levels.
• The accumulation of tariff measures has materially raised effective import duties on many trade lanes and increased trade policy uncertainty. This has encouraged some firms to re-route supply chains and re-negotiate contracts, but many had already front-loaded inventories earlier in the year; as those inventories run down, price pass-through to consumers and producers will increase.
• The key near-term effect of tariffs is to raise goods inflation and to distort trade volumes (value supported by prices rather than by volume growth). The net result is weaker investment appetite in trade-exposed industries and increased volatility in cross-border flows.

Monetary Policy:
European Central Bank (ECB):
• The ECB held policy steady in mid-September, indicating that the inflation outlook was broadly stable around its 2% medium-term target and that the Governing Council would remain data dependent when contemplating further moves.
U.S. Federal Reserve:
• On 17 September 2025, the Federal Reserve’s actions included a 25bps reduction that brought the primary credit rate and related policy rates to approximately 4.25% (the FOMC statement noted moderating activity, slower job gains, and some upward pressure on inflation).
• The Fed’s communications emphasized data dependence and a careful, phased approach to easing.
Inflation Trends:
Global:
• CPI inflation in the US edged up to 2.9 per cent in August 2025, the highest since January, though core inflation remained steady at 3.1 per cent.
• In the Euro area, headline inflation remained steady at 2 per cent in August 2025, with services inflation exhibiting a slight moderation alongside soft energy prices.
• Inflation in the UK was also steady at 3.8 per cent.
• Headline inflation in Japan eased to 2.7 per cent, marking the lowest reading since October 2024.

Indian Economy Update:
Macro Backdrop:
• India continued to post strong real growth in the most recent published quarter, but nominal growth and corporate earnings showed a lagged response as external pressures intensified.
• Domestic demand driven by consumption and private investment remained the principal driver of activity, while external demand softened in H2 as tariffs and global uncertainty took hold.

• Purchasing Managers’ Index (PMI):
• The HSBC India Manufacturing PMI was revised down to 57.7 in September 2025.
• Despite the fall, the figure remained well above the long-term average, signaling continued strength in the sector. robust performance in manufacturing.
• Trade and Tariffs:
• The U.S. tariff measures that came into force in August remained in place through September. These measures included across-the-board increases (base layers + punitive increments) that raised duties materially for many Indian export lines. The measures have already affected orders and pricing for vulnerable product categories.
• Most affected sectors: textiles, gems & jewelry, footwear, furniture, certain chemicals, & seafood (notably shrimp). Firms in these sectors reported order cancellations, price renegotiations, and efforts to seek alternative markets. Credit and cash-flow pressures are most acute for smaller, export-dependent firms.
• Unemployment Trends:
• Employment indicators continued to show improvement: CMIE (Centre for Monitoring Indian Economy) and other high-frequency measures indicated a decline in the unemployment rate (July reading at ~6.8%), reflecting seasonal rural employment gains and continued hiring in services.
Inflation Trends:
Domestic:
• Headline CPI inflation inched up in August 2025 after falling for nine consecutive months, with the pickup coming largely from the food group.
• CPI inflation stood at 2.1 per cent in August as against 1.6 per cent in July.
• Core inflation edged up to 4.2 per cent in August from 4.1 per cent in July.
• Gold contributed around 28 per cent to core inflation in August.
• Both rural and urban inflation edged up to 1.7 per cent and 2.5 per cent, respectively, in August.
Trends and Drivers of Inflation:

Bond Yields & Spreads:
• Indian yields dropped marginally in September 2025 as fears of higher fiscal, pursuant to GST cuts, abated.
• GST council rationalized multiple GST rates to three slabs i.e., 5%, 18% and 40% (for demerit goods), with certain items having nil rates.
• The government announced 2nd half G-Sec borrowing requirements at Rs.6.77 trillion (lower by Rs. 5,000cr from budgeted number). This assuaged market fears on fiscal concerns.
• Despite CPI inflation remaining low at 2.1% in August 2025, RBI MPC (Monetary Policy Committee) chose to maintain status quo in October 2025 meet while maintaining a neutral stance, though statement from RBI Governor was dovish and opened space for possible rate easing in December 2025.
• Lower GST rates may further reduce CPI inflation, making case for more easing.
• US rates trended lower on expectations of US FED cutting policy rates in September 2025, after data revisions showed weakness in labor market.
• Corporate bonds moved in tandem with sovereign with overall yields softening across the curve.
Outlook:
• US FED may reduce rates in upcoming policies on weakness in labor markets, though sticky inflation may keep the policy makers data dependent.
• The fiscal deficit of the US continues to remain a concern, while chaotic trade policy keeps the markets guessing on the potential outcomes and impact on US economy.
• While not reducing rates in October 2025 policy, the RBI Governor pointed that some room for easing may be there, on sharper than expected drop in inflation and possible slowdown in exports on US tariffs.
• FII flows remained marginally positive in July 2025 as low inflation increased expectations of further rate easing from the RBI MPC.
• RBI MPC may reduce rates by 25bps in December 2025 if inflation remains low and US trade deal remains inconclusive.
• With market borrowings marginally reduced, sentiment turned positive, and yields have softened in past few weeks. However, no large drop in rates is expected as global situation remains murky.
• Liquidity is ample and RBI is trying to manage excess short-term liquidity through VRRR operations. Debt Market sentiments are more likely to be influenced by further data on inflation trajectory and growth, US FED moves, geo-political tensions, and evolving US tariff situation.

Source: RBI, MOSPI, PIB, CMIE, NSDL, S&P Global, Ministry of Commerce and Industry, Reuters, Bloomberg, Internal Research.
Note: Data updated as available in the beginning of the month.