The bond market remains stable as RBI rates, record low inflation and liquidity measures shape the fixed income landscape

The Indian bond market remained steady throughout the month, with 10-year government bond yields falling four basis points to 6.49%, according to Axis Mutual Fund’s Fixed Income Review.The tone in global markets was also supportive, as US Treasury yields fell on growing expectations that the US Federal Reserve would announce a rate cut at its December policy meeting. The US 10-year yield ended the month at 4.01%, signaling a softening interest rate environment abroad.

The RBI’s December policy turned out to be the most consequential event for domestic fixed income. The Monetary Policy Committee cut the repo rate by 25 basis points to 5.25%, while maintaining a neutral stance.
Axis Mutual Fund attributes this decision to a rare ‘Goldilocks’ combination of strong economic growth and exceptionally low inflation, even as the rupee weakened.

Liquidity conditions in the banking system remained tight throughout the month due to GST outflows and continued open market operations, prompting the RBI to announce a series of liquidity injections for December 2025.

These include ₹1 lakh crore of government bond purchases in two tranches, along with a USD/INR Buy/Sell Swap worth $5 billion for a tenure of three years. Together, these measures are expected to alleviate systemic liquidity pressures.

Inflation provided an unexpected surprise, falling from 1.54% in September to 0.25% in October. Axis Mutual Fund notes that this is the lowest retail inflation in the current CPI series, driven by a favorable base effect, moderating food prices and the impact of GST rate adjustments. Core inflation also eased marginally to 4.4%, reflecting a broader easing of price pressures. The economic growth figures added even more momentum to the macro story. Real GDP growth for the July-September quarter reached a six-quarter high of 8.2% annualized, boosted by a low base and the statistical impact of declining inflation.Gross value added also rose to 8%, while nominal GDP growth remained largely stable at 8.7%. Meanwhile, US Treasury yields fell modestly, with weak labor market data reinforcing expectations of another Fed rate cut in December.

Axis Mutual Fund believes that while the RBI’s rate cut was widely expected, it also underlines the central bank’s intention to support growth in an environment of mild inflation.

With 100 basis points of cumulative easing already achieved, the fund house notes that much of the duration-driven rally in bonds is now behind it. The RBI’s commitment to maintaining accommodative liquidity signals a “lower for longer” interest rate regime, but with limited scope for aggressive future rate cuts. As a result, the fund house expects the 10-year GSec to trade within a narrow range of 6.4% to 6.6% for the rest of the fiscal year.

In the near term, market sentiment is likely to be driven by several factors, including inflation developments, the continued strength of economic growth, the RBI’s OMO purchases in December and the possibility of Indian government bonds being included in Bloomberg’s global indices.

Such inclusion could provide tactical opportunities for long bond investors, although currency volatility and potential global or domestic growth shocks remain critical risks.

Strategically, Axis Mutual Fund highlights that since February 2025, it has reduced duration in its portfolios and shifted from long-term strategies to accumulation-oriented portfolios.

The fund house has emphasized investing in short-term corporate bonds in the two- to five-year segment, citing excess liquidity, lower supply of corporate bonds and certificates of deposit, attractive spreads and a shallow interest rate cut cycle.

It also expects short-dated bonds to outperform longer-dated instruments from a risk-reward perspective, especially as market focus gradually shifts to government debt-to-GDP considerations.

Against this backdrop, Axis Mutual Fund continues to recommend short- to medium-term debt funds to investors, while maintaining a tactical allocation to government bond funds.

The overall environment, defined by low inflation, steady growth and supportive liquidity measures, points to a stable but selective approach to fixed income investing in the coming months.