Comment

Market will watch December industrial production nos

The bond markets shrugged off RBI’s neutral stance on interest rates and rallied last week on global recessionary trends. The rally, however, was held back by comments from the RBI deputy governor that “RBI policy is adequate” implying there is no change in stance.

The weekly inflation numbers came in higher than expected, leading to a bit of nervousness. Benchmark 10-year yields fell 3bps week on week.

On the global front, US service sector reading came in far lower than expected, leading to fears of recession in the US.

US treasuries rallied 10bps after the report, but then pulled back by 20bps after the treasury auction failed to get good response as investors balked at lower yields.
Bank of England (BOE) cut benchmark rates by 25bps as expected but cited impending short-term inflationary pressures. European Central Bank (ECB) maintained rates status quo, but acknowledged growth concerns.

Markets are expecting BOE to cut rates further this year, while factoring at least one cut by the ECB.

The market will go into this week with fresh positions from the government bond auctions held on February 8. The RBI had auctioned Rs9,000 crore of government bonds under the government borrowing programme. The auction was the last auction for the current fiscal.

The market will try and rally the auction bonds, but if there is no follow through buying, then there could be profit taking. The market will watch the industrial production numbers for December 2007 due to be released on February 12 for cues on interest rate direction.

This week will see the market facing Rs9,500 crore of auctions under MSS(market stabilisation scheme), including Rs4,000 crore of dated bonds.The short-end of the curve will remain pressured on constant supply and the yield curve is expected to remain flat. Inflation as measured by the WPI (Wholesale Price Index)came in higher than expected at 4.11% for week endedJanuary 26, 2008. Market expected inflation to come in at 3.93% levels.

Liquidity as measured by bids for reverse repo/ repo in the LAF (liquidity adjustment facility) of the RBI saw bids for reverse repo at 6% averaging Rs18,702 crore last week against Rs18,685 crore in the week earlier to last. Overnight rates were around
6% levels on ample liquidity.

Government bonds
Government bonds saw yields rise fall week on week. The yield on the benchmark 10-year bond 7.99% 2017 bond was lower by 3bps to close at 7.47% levels. Five- year benchmark bond yields was lower by 2bps with the yield on the 7.27% 2013 bond closing at 7.44% levels. Yields on the long bond the 8.33% 2036 bond closed lower by 4bps at 7.77% levels. The ten over thirty spread moved down by 1bps to close at 30bps levels.

The government bond auction of 12.25% 2010 bond for Rs 4000 crores under MSS saw the cut off coming in at 7.52% against the previous week cutoff of 7.57% on the 11.30% 2010 bond. The RBI is auctioning Rs4,000 crore of 6.57% 2011 bonds under MSS this week.

The RBI auctioned Rs 9000 crores of bonds under the government borrowing programme this week. The bonds auctioned were the 8.20% 2022 bond for Rs5,000 crore and the 8.33% 2036 bond for Rs4,000 crore.

The cutoff for the 8.20% 2022 bond came in 1bps lower than expected in yield terms at 7.62%while the cut off on the 8.33% 2036 bond came in at expectations at 7.77%.
Treasury bills,corporate bonds and overnight index swaps

Treasury bills (T-bills) yields were flat last week. The cutoff on the 91-day T-bill auction held on February 6 came inat 7.27% against a similar cut off seen in the previous auction. The 182-day T-bill auction saw the cut off coming in at 7.27% against a cutoff of 7.25% seen in the previous auction. The RBI is auctioning Rs2,500 crore of 91-day and Rs3,000 crore of 364-day T-bills this week, including Rs2,000 crore of 91-day and Rs2,000 crore of 364-day T-bills under MSS.

Corporate bonds saw benchmark five year bonds yields becoming sticky at 9% to 9.05% levels. The fiveyear AAA bond spreads were around 146bps levels. Spreads are likely to remain pressured on continuous supply at the short end of the curve.

Overnight index swaps (OIS) saw the swap curve move lower on the back of recessionary trends. One-year OIS yields moved lower by 2bps to close last week at 6.69% levels while the five year OIS yields closed lower by 1bps at 6.64% levels. The one over five spread came off by 1bps from negative 6bps to negative 5bps.

The author is Head, Portfolio Management Services,
Sundaram BNP Paribas AMC Ltd. The views expressed by the author are his own and need not represent the views of the organisation in which he works.