The Hindu Business Line : Securities rally on surge in liquidity

The rally was also driven by the absence of Government borrowings. The Government concluded its last tranche of borrowings for this fiscal with the placement of the 8.35 per cent 2022 securities for Rs 5,000 crore.

The only future borrowings expected to take place during the coming weeks were in the form of 91-day and 364-day Treasury bills.

At the 8.35 per cent 2022 auction last Monday, the issue was oversubscribed despite the lower cut-off yield of 7.34 per cent, through most traders expected it to be close to 7.5 per cent. The lower cut-off yield was driven by the presence of life insurance companies who pitched for this high-coupon security.

The drop in the cut-off yields also reflected in the 91-day T-bill auction. Yields at the auction were 5.24 per cent, almost unchanged from the previous week. This auction was also oversubscribed, though there were hardly any non-competitive bidders.

Ban on MFs: Non-competitive bidders such as MFs have already begun switching over to certificates of deposit. This was due to SEBI's ban on MFs parking funds in bank deposits.

The increased liquidity in the banking system resulted in pushing down the 10-year yield to maturity (YTM) last week on a weighted average basis to 6.64 per cent, from the previous week's 6.81 per cent.

Positive undertone was evident from the increased trade volumes.

Trade volumes: The average trade volumes crossed Rs 4,500 crore after a gap of almost three months. But, there were contradictory signals over the sustainability of the rally. One was the wide spread between the weighted average and the benchmark security. The 10-year YTM on the 7.38 per cent 2015, treated as the benchmark security by the Fixed Income and Money Market Dealers Association, was 6.43 per cent. The spread between the weighted average and the benchmark security was 19 basis points. Moreover, the spread between one year and the 23 years was 117 basis points.

Insurers' focus: One major reason for this trend was the focus of insurance companies on securities such as the 10.79 per cent 2015 and the 11.43 per cent 2015.

These securities were bought by life insurers at yields of 6.67 per cent and 6.71 per cent, respectively.

Both these securities, now in the available for sale (AFS) category, were favoured by the life insurance companies, who traditionally have appetites for high YTM long-dated securities.

The high pricing on these securities were also partly due to the fact that single trades of these securities were available only in small lots, unlike in the case of the benchmark, where a single lot would be available in the large volumes.

Selling by banks: Besides, banks were selling some of these securities in a bid to ensure that this year's balance sheet remained attractive ahead of a series of public offerings. Fears were that depreciation of investments would impact the pricing of their equity offerings and therefore would have to be neutralised by selling some of the high-coupon securities.

Some of these securities were earlier in the `held-to-maturity' category and was moved into the AFS. Consequently, there was unlikely to be any major losses for any of them even if sold at current market prices.

The increased trading activity, despite the kinks in the yield curve was likely to push down yields in the coming weeks at least up to the end of this fiscal year, bankers felt. This trend was apparent from the sharp narrowing of spreads between one year and 23 years. This spread is now close to 120 basis points.

Besides, inflation was also down to 5.25 per cent, implying that real yield for one year was now about 50 basis points.

Softening trend: Part of the reasons for a softening trend was the slowdown in credit offtake, by negative offtake in food credit.

Food Corporation of India is reducing its outstanding debt out of surpluses earned by foodgrain exports. In fact, data for the latest week indicated that the food credit was as much as Rs 2,300 crore.

Credit offtake: The drop in credit offtake and the increase in deposits led to a slight drop in the credit-deposit ratios. CD ratios are now about 62 per cent, against the monthly average of around 63 per cent.

Moreover, bankers said, while foreign exchange flows continued into the country, there was also considerable demand from importers, particularly oil companies.

As a result, foreign exchange reserves showed a dip of $812 million to $128.914 billion.

Steady forwards: However, expectations are that with the steady forward premia at current levels, exporters would start beginning to remit their earnings back into the country after a long gap.

This is expected before the end of fiscal year, when some of the tax exemptions available on foreign exchange earnings are anticipated to be withdrawn fully. This, in turn, is expected to lead to a liquidity influx in the market during the next few weeks.

Tier II issues: Anticipating this and to meet the mounting credit requirements, some banks have planned their Tier II issues during the period hoping to get pricing below 7 per cent.

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