Bonds yields set to rise by up to 10 bps

A sharp downward revision in the projection of economic growth to 6.3% from the earlier estimate of 7.3% and higher inflation forecast have spooked money markets to push up yields by 5 to 10 basis points.

A basis point is equal to one-hundredth of a percentage point.

The yields, experts say, could go up to 6.85% on the ten-year benchmark bond as the markets adjust to the realities. The ten-year benchmark bond maturing on 2027 moved to 6.7% from 6.65% while the government bond maturing on 2029 with a coupon rate of 6.79% saw its yields rising from 6.91% to 6.98%.

The Monetary Policy Committee (MPC) expects inflation to rise from current level to 4.2% to 4.6% in the second half of this fiscal year.

Urjit Patel, governor, Reserve Bank of India (RBI), said, "The teething problems related to goods and service tax (GST) may get resolved in the second half."

Ananth Narayan, managing director, global markets, Standard Chartered, told DNA Money, "The yields are moving up primarily on the fact that inflation projections have risen and the possibility of a rate cut in December look distant."

The RBI on Wednesday raised its retail inflation projection to 4.2-4.6% for the second half of the current fiscal due to firming global oil prices and uncertainty on kharif farm output. Retail inflation had swelled to five-month high of 3.36% in August on the back of costlier vegetables and fruits and the favourable base rate effect tapered off in July and disappeared in August.

Venkat Nageswar, deputy managing director, global markets, State Bank of India, said, "The 10-year is likely to trade at 6.45% to 6.80% on growth concerns. We had times when the real interest rates were negative. But I still hold my view that despite the worries on growth, I am looking for a 0.25% cut in December 2017."

The expectation that a large quantity of the government bonds may flood the market to absorb the additional liquidity due to the cut in the statutory liquidity ratio is also running up the yields. But this is only a reiteration of earlier road map where the RBI would gradually reduce the burden of government borrowing from the banks.

RBI has been absorbing an average of Rs 3 lakh crore in the liquidity adjustment window where banks park excess government bonds to borrow from the central bank.

RBI conducted open market sales operations on six occasions during Q2 to absorb Rs 60,000 crore of surplus liquidity, in addition to the issuances of treasury bills worth Rs 1 lakh crore of tenors ranging from 312 days to 329 days under the market stabilisation scheme during April and May. As a result, net average absorption of liquidity under the liquidity adjustment facility declined from Rs 3 lakh crore in July to Rs 1.6 lakh crore in the second half of September.