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ShareThe heavy supply of bonds coming up this week will keep bond yields pressured.
The state governments are scheduled to raise Rs 9,150 crore from the market while the central government will auction Rs 12,000 crore of bonds. The holiday-shortened week will force the market to reduce positions ahead of the government bond auction.
Bond yields dropped 25 basis points last week on signals from the Reserve Bank of India (RBI) that the cap on held-to-maturity (HTM) portfolios of banks will be hiked. Bond market sentiments got a further boost from the RBI governor who stated that the central bank will hold on to the current accommodative stance till clear signs of growth emerge. The news of hike in HTM cap as well as the positive statements from the RBI governor helped pull down 10-year bond yields to 7.11% levels from 7.36% over the week.
Bond yields, however, will be bid at higher levels in anticipation of the hike in HTM cap of banks. The Rs 12,000 crore bond auction this week will see the government completing almost 67% of its full-year borrowing programme. The government is slated to borrow Rs 1.25 lakh crore till March 2010 and has gone on record saying that the borrowing will be completed by February 2010. This would mean roughly Rs 25,000 crore a month of government bond supply. Given that a HTM hike would mean banks will have more appetite to subscribe to government bond auctions, the borrowing is expected to go through smoothly, without pressurising yields.
The fundamentals driving interest rates are uncertain. The RBI is keen on withdrawing its accommodative policy stance as early as possible on the back of signs of increased inflation expectations. The government will continue to be a heavy borrower from the market in order to service existing debt as well as compensate for lower revenues from taxes. The uncertain fundamentals will place pressure on interest rates down the line. Chances of a sustained bond rally are slim given the pressure on rates.
Inflation as measured by the wholesale price index (WPI) came in at positive 0.12% for the week ended September 5, 2009, against expectations of a negative 0.12%. The high base effect has worn off sooner than expected on sustained rise in primary article inflation.
Liquidity as measured by bids for reverse repo/ repo in the liquidity adjustment facility auction remained high with bids for reverse repo at Rs 1.15 lakh crore. Overnight rates were at 3% levels. Liquidity will continue to be high in the system keeping overnight rates low.
Government bonds
Government bonds saw yields move down week-on-week on hopes of a hike in HTM limits of banks. The 10-year benchmark bond, the 6.90% 2019 bond, saw yields move down by 28bps to close the week at 7.08% levels. The five-year benchmark bond, the 6.07% 2014 bond, saw yields move down by 18bps to close at 7.03% levels. The 7.94% 2021 bond saw yields close down 25 bps at 7.68% levels while the long bond -- the 8.24% 2027 bond -- saw yields close down 8 bps at 8.08% levels.
The government auctioned Rs 11,000 crore of bonds last week. The bonds auctioned were the 7.02% 2016 bond for Rs 5,000 crore, the 6.90% 2019 bond for Rs 4,000 crore and the 8.27% 2027 bond for Rs 2,000 crore. The cut-offs came in at 7.05%, 7.05% and 8.05% respectively. The government is scheduled to auction Rs 12,000 crore of bonds this week. The bonds to be auctioned are the 6.49% 2015 bond for Rs 6,000 crore, the 6.35% 2020 bond for Rs 4,000 crore and the 8.28% 2032 bond for Rs 2,000 crore.
The RBI purchased Rs 4,525 crore of bonds in open market operations (OMO) purchase auction last week. The bonds purchased were the 7.37% 2014 bond for Rs 3,170 crore, the 8.07% 2017 bond for Rs 1,355 crore. The cut-offs were 7.08% and 7.38% respectively.
Treasury bills, corporate bonds and overnight index swaps
Treasury bill (T-bill) yields were flat in the 91-day auction held last week with the cut-off at the auction on September 16 coming in at 3.40%, against a similar cut-off seen in the previous auction. The 182-day T-bill auction saw the cut-off coming in at 4.03% against a cut-off of 3.99% in the previous auction. The RBI is auctioning Rs 5,000 crore of 91-day T-bills and Rs 1,000 crore of 364-day T-bills this week.
Corporate bond yields were lower week-on-week on the back of a rally in government bond yields. Five-year benchmark bonds traded lower by 11bps at 8.45% levels while 10-year benchmark bonds traded lower by 7 bps at 8.83% levels. Five-year spreads closed at 126 bps levels while 10-year spreads closed at 158 bps levels, up 3 bps and 18 bps respectively. Corporate bond yields are likely to track government bond yields, though spreads are likely to move higher if government bonds rally.
Overnight index swaps (OIS) saw the curve move down week-on-week on the back of a rally in government bonds. The five-year OIS yield closed lower by 7 bps at 6.63% levels while the one year OIS yield closed lower by 5 bps at 4.85% levels. The one-over-five spread closed down 2 bps at 178 bps levels. The OIS curve is likely to flatten further as market factors in higher rates at the short end of the curve.
The author is head, fixed income, IDFC Mutual Fund. Views are personal.
