The bond market is in uncertain territory, with bonds giving up all gains seen after the annual policy review of the Reserve Bank of India (RBI) on April 24.
The bond market is in uncertain territory, with bonds giving up all gains seen after the annual policy review of the Reserve Bank of India (RBI) on April 24. The benchmark 10-year bond, the 8.07%, 2017 paper, saw yields fall 12bps after the policy announcement, where the RBI maintained status quo on all rates.
The 8.07%, 2017 bond, which was trading at the 8.08% levels before the policy, fell all the way down to 7.96% after the policy. However, high auction cut-off at 8.16% (the bond was auctioned for Rs 6,000 crore on April 27) saw the bond closing the week at the 8.14% levels, which is higher by 18bps from post-policy lows and higher by 7bps week-on-week.
The sudden spike in yields after a seemingly positive policy, indicate that the market is unsure of the RBI’s future policy moves. The swap market amplified the uncertainty with sharp spike in yields. The one-year overnight index swap (OIS) closed last week at the 8.78% levels, higher by 38bps week-on-week and 48bps from the post-policy lows of 8.30%.
The swap yields are indicating tight liquidity conditions, which are expected to keep the overnight call rates at high double-digit levels. Call money rates traded at highs of 15% on the last day of last week.
The RBI, in the annual policy, indicated that while the policy stance is still biased towards removing policy accommodation, there is scope for the past policy moves of hiking reverse repo, repo and cash reserve ratio (CRR) rates to start taking effect in the medium term.
The RBI also signalled that it will act swiftly if either inflation or growth is threatened. The market is, however, faced with issues of the increase in market stabilisation scheme (MSS) limits (The limit was raised from Rs 80,000 crore to Rs 95,000 crore and to Rs 1,10,000 crore from the current outstanding levels of Rs 77,000 crore), sharp appreciation of the rupee against the dollar, cuts in statutory liquidity ratio (SLR), tight liquidity and high oil prices. The market is increasingly factoring in repo rate hikes and liquidity-tightening measures.
Liquidity was tight last week with the market drawing down for the RBI through the Liquidity Adjustment Facility (LAF) bids for repo at 7.75%. Liquidity is expected to be tight this week with the 25bps CRR hike taking effect from the current reporting fortnight (sucking out Rs 7,700 crore from the system).
Holidays this week will force banks to cover their position aggressively. The bond auctions for Rs 18,000 crore in May are also expected to drain liquidity. Call money rates are expected to be highly volatile, while the repo rates will hover around the 7.75% levels.
Government bonds
Government bond yields gave up all their post-policy gains to end higher week-on-week. The 10-year benchmark bond, the 8.07%, 2017 security, closed the week at the 8.14% levels from the 8.07% levels seen in the week earlier to last.
The five-year benchmark bond, the 7.40%, 2012 security, closed better last week, down 3bps down from 8.07% to 8.04%. The long bond, the 8.33%, 2036 security, closed down 4bps from the 8.49% to the 8.45% levels. The yield curve steepened by 10bps in the 5-over-10 segment to close the week at the 9bps levels from a negative the 1bps levels seen in the week earlier to last.
The government bond auction of the 8.07% 2017 bond for Rs 6,000 crore saw the cut-off coming in at 8.16% against expectations of 8.12%. The market looked to have bid cautiously for the bond, indicating that appetite at higher levels was low. The weak cut-off took the yield on the 10-year benchmark bond to 8.14% levels. The market will go into the week on the back of RBI’s release on the increase in MSS ceiling from Rs 95,000 crore to Rs 1,10,000 crore.
Trading is expected to be thin and bonds will react negatively to the overnight news.
T-bills
Treasury bills saw lower cut-off in the 91 day T-bill auction. The 91 day T-bill auction cut-off came in at 7.35% against the 7.48% seen in the week earlier to last.
The lower cut-off was due to the positive sentiments, post-policy The 364 day T-bill auction saw the cut-off coming in at the 7.75% levels against the 7.70% seen in the last auction. T-bill yields are expected to react negatively to the announcement of higher MSS ceiling.
Corporate bonds
Corporate bonds saw trading concentrated in the short tenor with mutual funds being the dominant participants. Trader interest is absolutely zero, and the market will hope for more domestic issuances at current spreads of 175bps for increased liquidity and trading opportunities.
Overnight index swaps
Overnight index swaps (OIS) saw one-year OIS yields spiking up by 38bps week-on-week on fears of tighter liquidity leading to high Mibor fixings. The sharp uptick in the one-year OIS yield indicates extreme nervousness on liquidity. The one-year OIS yield has moved by up almost 50bps in the last two weeks. The five-year OIS yield closed higher at the 8.34% levels from the 8.22% levels seen in the week before last. The curve inverted by 29bps week-on-week to close last week at 44bps. Swaps are indicating tight liquidity and higher interest rates in the near term.
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.
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