The Hindu Business Line : Insurers go for longs at current yields

Also, there was some panic after the bomb blasts in London. However, there was little effect on the domestic bond markets since big traders in the markets are state-owned banks and institutions. Foreign institutional investors and foreign-owned banks that are usually the ones to hit stop-loss trigger are hardly big traders in the bond markets.

Accordingly, traders said the major factors that continued to drive bond yields were oil-induced purchases by refineries and fear of increased government borrowings to support oil companies' losses.

Weekend mop-ups: As a result, the weekend mop-up through reverse repurchase operations remained on the lower side, at barely Rs 5,000 crore. But, during the week, the 91-day Treasury bill yields hardened to 5.41 per cent, up from the previous week's 5.32 per cent.

Similarly, the 364-day treasury bills hardened to 5.74 per cent from 5.62 per cent at the previous auctions. Traders said some bids made for the 91-day T-bills were far higher. As a result, the RBI accepted only those bids that conformed to or were below the cut-off yields.

Traders said this trend clearly indicated that the hardening of yields had started well before the London attacks. However, this was not expected to continue for long. One reason was that despite the hardening of yields, inter-tenor spreads continued to remain steady. These spreads hovered between 155 basis points and 165 basis points.

Last week, these spreads were 160 basis points. Besides, volumes also remained steady. Daily trading volumes were about Rs 3,000 crore.

Besides, traders also said that at the current yield levels were likely to enthuse insurance companies. Insurance companies, particularly life insurers, were interested in picking up long-dated securities such as the 6.01per cent 2028 and the 7.5 per cent 2034. The latter was quoted at 7.76 per cent, making it attractive for life insurance companies. In the case of the 6.01 per cent 2028, there were offers at YTMs as high as 7.65 per cent.

Bank recoveries: Besides, liquidity build-up was again taking place in the markets, partly on account of the large recovery efforts of the banking sector.

Last quarter, PSU banks were reported to have made cash recoveries of at least Rs 150 crore each. This implied that the combined recovery by the entire banking sector to be in the region of Rs 3,000 crore, traders said.

Real yields: Further, the hardening witnessed has resulted in a further raising the real yields. Real yields up to one year were now close to 2 per cent, with inflation at 4.14 per cent. Traders said that at these levels, there was considerable scope for a correction, the real yields possibly coming down to an internationally accepted level of 1.5 per cent.

During the last few weeks, inflows into the domestic markets were driven mostly by non-debt capital accounts, particularly from non-resident Indians. Bankers said that the flows considerably reduced the panic in the foreign exchange markets.

In fact, despite oil prices remaining on the higher side, forward premia, for six and 12 months, have remained below 1.75 per cent.

Even the most volatile premia, the one-month premia, also remained below this level, indicating that there was not much panic in the markets. Taking the pressure was the non-debt inflows. These inflows hardly fell in the category of foreign direct investment, but were still not debt creating. Such funds, inclusive of portfolio flows, were in the region of about $75 million to $90 million per day, sufficient to meet the incremental oil bill.

Prepayments: But, bankers said that some of corporates were also making large prepayments of external commercial borrowings and substituting them with domestic borrowings.

The large corporate prepayments with the burgeoning oil prices pulled down the exchange reserves by $1.447 billion to $137.443 billion. Traders said that the drop was also partly driven by the slight appreciation in the dollar during the last few weeks.

The large corporate prepayments of foreign loans, traders said, helped the RBI's sterilisation efforts in the domestic markets, through the automatic removal of the excess liquidity. The prepayments were partly on account of the increase in the Fed funds rate. The interest rate differential between domestic and international markets has considerably narrowed. The difference between the Federal discount rate and the RBI's bank rate, for instance, is only one per cent. Traders said that given the current liquidity situation in the markets there was very little prospect for domestic rates to rise immediately.

Credit offtake: Credit demand also helped drive yields. Banks were currently operating on incremental credit-deposit ratios of over 100 per cent. In fact, most of them were funding their CD ratios through sale of bonds. Some were also booking losses in these sales, but were offsetting the notional losses through higher yield realisation in credit, bankers said.

Bankers said that most of them were now grappling with ideas for sustaining this high credit rate. One method was to raise deposits. But, bankers said deposits attracted reserve ratios raising their costs considerably. So, the option being worked out is to create funds without escalating liabilities.

Bankers are beginning to preparing to shift to securitisation as a method of raising funds to bypass reserve ratios.

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