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ShareMumbai: Government bond yields gave a cold shoulder to the 50 basis points cut in reverse repo and repo by the Reserve Bank of India, with yields closing flat-to-higher after the rate cut.
RBI cut policy rates on March 4 in recognition of significant risk to economic growth. The inter-policy cut in rates, though expected, still came as a surprise to the market, given the timing. The market, however, shrugged off the policy easing and focused on the heavy supply from the government.
The government is scheduled to borrow Rs 24,000 crore in the next two weeks, and is expected to borrow Rs 2,00,000 crore in the first half of fiscal 2009-10. State-government bond supply has also increased sharply, with Rs 14,000 crore of borrowing scheduled for March 9. The market is struggling to find ways to absorb the supply and is ignoring rate actions by the central bank.
The funding of the government borrowing will set the tone for bond yields in the coming weeks. The market will expect RBI to come out with open market operation (OMO) purchases before the next two government bond auctions of Rs 12,000 crore each. The market will also speculate on the nature of the borrowing calendar for the period April-September 2009. There have been noises made by the government on private placement of government bonds with RBI. If the market perceives that the government borrowing can go through smoothly with the participation of the central bank, bond yields are likely to trend down.
The Bank of England (BoE) is the first central bank to come out with quantitative easing. The BoE reduced policy rates to all time lows of 0.5% and announced a bond purchase of £75 billion. There have been noises from the US Federal Reserve on buying US treasuries to bring down long-bond yields. The European Central Bank (ECB) is debating quantitative easing after reducing policy rates by 50bps to all time lows of 1.5%.
Inflation as measured by the wholesale price index fell to 3.03% as of the week ended February 21, 2009. Inflation stood at 3.36% in the previous week. Inflation is expected to trend down further in the coming weeks on high base effect and fall in primary article prices. Export growth for February is estimated at a negative 13%.
Industrial production growth for January 2009 is expected to come in negative. Falling inflation and weak economic data has prompted RBI to reduce policy rates.
Liquidity, as measured by bids for reverse repo/ repo in the liquidity adjustment facility auction of RBI, was in surplus last week. Bids for reverse repo at 3.5% touched Rs 67,000 crore last week Overnight rates were trading around reverse repo levels of 3.5%. Liquidity is likely to remain easy this week and overnight rates are likely to trade around reverse repo levels.
Government bonds
Government bonds saw yields move up sharply on high auction cut-offs. The most traded bond, the 8.24% 2018 bond, saw yields move up 40bps week-on-week to close at 6.75% levels, while the new 10-year bond, the 6.05% 2019 note, saw yields move up by 50bps to close at 6.50% levels. The five-year benchmark bond -- the 7.56% 2014 note -- saw yields close up 45bps at 6.25% levels. The long bond, the 6.83% 2039 bond, saw yields move up by 35bps to close at 7.90% levels. Government bond yields are expected to remain choppy on government borrowing worries.
RBI conducted an OMO auction last week. The central bank bought Rs 7,705 crore of bonds in the OMO, exercising a greenshoe option of Rs 1,700 crore. The bonds purchased under the OMO were the 7.99% 2017 bond for Rs 4,500 crore, the 6.30% 2023 bond for Rs 290 crore, 7.95% 2032 bond for Rs 1,480 crore and the 8.33% 2036 bond for Rs 1,435 crore. OMO cut-offs were close to market levels at 6.78%, 7.18%, 7.58% and 7.67%, respectively.
RBI auctioned Rs 12,000 crore of government bonds last week. The bonds auctioned were the 6.05% 2019 bond for Rs 8,000 crore, the 8.24% 2027 bond for Rs 2,000 crore and the 6.83% 2039 bond for Rs 2,000 crore. The cut-offs came in higher than market expectations in yield terms at 6.50%, 7.75% and 7.90%, respectively.
Treasury bills, corporate bonds and overnight index swaps
Treasury bill (T-bill) yields were lower in the 91-day T-bill auction last week, with the cut off on the 91-day T-bill auction held on March 4 coming in at 4.67% against a cut-off of 4.79% in the previous auction. The 182-day T-bill auction saw the cut-off coming in higher, at 4.62% against a cut-off of 4.72% in the previous auction. RBI is auctioning Rs 5,000 crore of 91-day T-bills and Rs 3,000 crore of 364-day T-bills this week.
Corporate bond yields trended higher after the rate cut by RBI on fears of supply and fiscal year-end liquidity worries. Five-year benchmark bonds traded at 8.5% levels while 10-year benchmark bonds traded at 9.15% levels, up 25bps and 15bps from lows, respectively. Credit spreads came off as absolute levels of yields attracted buyers. Corporate bond yields are likely to be ranged given year end pressures on liquidity.
Overnight index swaps (OIS) saw the curve steepen on the back of rate cuts. The one year OIS yield closed up by 13bps at 3.86% levels while the five-year OIS yield closed up by 40bps at 5.36% levels. The market saw position-cutting on five-year OIS by players who had gone long on the curve on expectations of rate cuts. The one-over-five spread steepened by 30bps to close at 152bps levels. The OIS curve is likely to take a flattening bias if news on government borrowing is positive.
Disclaimer: The author is head - fixed income, IDFC Mutual Fund. Views are personal.
