Further monetary policy tightening, strong depreciation of currency on the cards

“Resulting from the uncertainty over access to creditors, continued high budget deficit and negative liquidity, 1H2022 bond yields are likely to rise by 150bps-200bps, and in 2H a further 100bps-150bps upside is expected; but with no IMF or inflows, yields could just skyrocket. Altogether bond yields are expected to rise sharply by 250-350bps within the period 1Q2022 – 4Q2022,” FC Research says.

The analysts further say: “In 1H2022, the extremely weak economic indicators may force the Monetary Board to further tighten monetary policy. Thereby, we expect 2 rate hikes in 1H2022 while 1 rate hike was already announced in Jan-22. In 2H2022 we expect 1 more rate hike to take place to balance the overall economic outlook. Cumulatively, we expect 3 rate hikes for 2022.”

“In Jan 2022 policy rates have been increased again while a significant negative liquidity portion continues. Demand for private sector credit is also continuing at a similar pace. With the expect rise in bond yields, we expect AWPR to follow a similar suit with a similar accelerated pace as witnessed in 2H2021 to reach 10.0%-11.0% by Jun-22 and 11.0%-12.5% by Dec-22.”

“Taking the weak macro situation into consideration, we expect a strong depreciation of the currency over the forecasted period. We further downgrade our Jun-22 target from LKR 225.0-240.0 to LKR 230-245.0 while targeting LKR 240.0-270.0 for the Dec-22.”

“With strong Dec-21 earnings and negative real interest rates, we expect ASPI returns to be strong in the shorter term resulting in the ASPI potentially rising to the 15,000 mark within the 1Q2022. We believe that Sri Lanka could be in for a major shock within the next 3-12 months, thereby, our long-term view is to reduce risk by aggressively shifting to defensive counters while we expect possible negative return in the broader market in 2H2022,” First Capital Research says.