Comment

Bond markets will now readjust to the new borrowing calendar. The immediate trend for bond yields is higher given the higher than expected supply. Bond yields are likely to stabilise at higher levels and then take direction from auction cut-offs.

Bond yields gave up all its gains on the back of the government targeting a fiscal deficit of 6.8% for the fiscal year 2009-10. Bond yields had rallied by 25-40 basis points across the curve on hopes that the government will contain fiscal deficit at close to 6% levels.

The market was expecting a gross borrowing of Rs 410,000 crores and what the market got was a gross borrowing of Rs 451,000 crores. The gross borrowing of Rs 451,000 crores is Rs 90,000 crores higher than the gross borrowing of Rs 360,000 crores targeted in the vote on account presented in February 2009.

The RBI (Reserve Bank of India) will now issue a revised borrowing calendar for the second quarter of 2009-10. The government is slated to borrow Rs 97,000 crores in the July- September quarter and given the higher borrowing target presented in the budget, the borrowing for the quarter could be increased by Rs 30,000 crores to Rs 127,000 crores.

The government had borrowed Rs 18,000 crores in excess of the targeted amount ofRs 144,000 crores in the April-June 2009 quarter leaving Rs 72,000 crores of additional borrowing for the full year 2009-10. The RBI will calibrate the borrowing to minimise the impact of higher government borrowing on the market.

The conditions for the government to borrow more are conducive at present. The banking system is flushed with liquidity — systemic liquidity is ruling at over Rs 200,000 crores. Banks loan growth at 15.7% year on year is slower than deposit growth of 22% year on year creating an inherent demand for government bonds from the banking system. The RBI has reduced policy rates to all time lows with the reverse repo rate at 3.25% and the policy rates are expected to kept at lows until there are signs of sustained economic recover.

Inflation as measured by the WPI (wholesale price index) is ruling at negative levels on the back of steep falls in commodity prices and on the back of high base effect. Bond yields will also watch for behaviour of asset prices globally.

Global asset prices are looking to come off from highs seen in June 2009 on the back of weaker than expected economic recovery forecasts. Oil prices have dropped over 10% from highs on demand slowdown.Global bond yields have fallen by around 30-50bps from highs seen in June 2009 on concerns of economic growth.

A sustained fall in global asset prices is positive for bond yields as inflation expectations will come off and expectations of further cuts in policy rates will increase.

The author is head — fixed income, IDFC Mutual Fund and views are personal