India's Monetary Policy Pivots: Assessing the End of the RBI's Easing Cycle and Its Implications for Fixed Income Markets

The Reserve Bank of India (RBI) has navigated a delicate balancing act in 2025, prioritizing growth support while managing historically low inflation. With the repo rate reduced by 25 basis points in December 2025 to 5.25%-marking the fourth cut in the easing cycle and a cumulative reduction of 125 basis points-the central bank has signaled its commitment to fostering economic momentum. This decision, made against a backdrop of a CPI of 0.25% in October 2025, underscores the RBI's focus on sustaining growth amid benign inflation. However, the question of whether the easing cycle is nearing its end-and how this will reverberate through fixed income markets-has become a critical focal point for investors.

Bond Market Positioning: Yields, Liquidity, and Foreign Investor Sentiment

The RBI's dovish stance has directly influenced India's government bond market. By December 2025, the 10-year government bond yield had fallen to 6.53%, a 5 basis point decline from September. This downward trend reflects market optimism about further rate cuts, with some analysts projecting a potential 50-75 basis point reduction to stimulate growth. The RBI's liquidity injections-such as ₹1 lakh crore in open market operations (OMO) and a $5 billion dollar-rupee swap-have also bolstered investor confidence.

Foreign portfolio investor (FPI) inflows have added another layer of support. In October 2025 alone, FPIs injected $1.97 billion into Indian bonds, with year-to-date inflows reaching $8.16 billion. This robust participation has helped stabilize yields despite liquidity tightening from forex interventions aimed at curbing rupee volatility. Looking ahead, analysts anticipate a range-bound movement for yields, with the 10-year benchmark expected to trade between 6.30% and 6.70%. State Development Loans (SDLs), with their attractive spreads and lower supply, are also seen as a potential outperformer.

Swap Rate Dynamics: Signals of Policy Uncertainty

While the RBI's easing cycle has driven bond yields lower, swap rate dynamics reveal a more nuanced picture. Overnight Indexed Swap (OIS) rates, which reflect market expectations of future policy rates, have shown mixed signals. The one-year OIS rate currently trades between 5.35% and 5.55%, with dealers anticipating a drop to 5.40% if the RBI cuts rates further. However, five-year OIS rates have surged to 5.95%, the highest since March 2025. This divergence suggests that investors are pricing in the possibility of an end to the easing cycle, with expectations of rate hikes in the near future.

This tension between short-term easing and long-term tightening is further amplified by the RBI's growth projections. While the central bank upgraded its full-year GDP forecast to 7.3%, it also acknowledged a slowdown in momentum, projecting growth to fall from 8.2% in the September quarter to 6.5% in early 2026. Such projections, coupled with concerns over U.S. tariffs dampening exports, have created a climate of uncertainty.

Implications for Fixed Income Markets

The interplay between RBI policy and market expectations has significant implications for fixed income investors. For starters, the current yield environment-characterized by low 10-year yields and a flattening yield curve-suggests that the market is pricing in a pause in rate cuts. This could limit capital gains for bondholders if the RBI signals a shift toward a more neutral or even hawkish stance.

On the other hand, the RBI's liquidity measures-particularly the $5 billion swap and OMO purchases-provide a buffer against volatility. These interventions are likely to keep short-term rates anchored, offering stability for money market instruments. Meanwhile, SDLs and other high-yield segments may continue to attract investors seeking spreads in a low-yield environment.

However, the key risk lies in the RBI's ability to balance growth and inflation. If inflation rebounds or global headwinds intensify, the central bank may face pressure to reverse its easing bias. Such a scenario could trigger a sell-off in bonds and a sharp rise in swap rates, as seen in the recent surge in five-year OIS rates.

Conclusion: Navigating the Crossroads

India's fixed income markets stand at a crossroads. The RBI's easing cycle has provided a tailwind for bond prices and liquidity, but swap rate dynamics and growth projections hint at an impending policy pivot. Investors must remain vigilant, monitoring both the central bank's communication and market signals for clues about the cycle's trajectory. For now, a balanced approach-leveraging the RBI's liquidity support while hedging against potential tightening-appears prudent in this evolving landscape.