The Hindu Business Line : Bonds lower on fears of higher borrowings

Traders said that the weakness stemmed from anticipation of higher government borrowings to offset revenue slippages and higher capital expenditure. Revenue slippages were mostly in some of the indirect taxes and the inability to raise sufficient non-tax revenues during the year.

Dividends from oil companies are unlikely in view of the losses being incurred by them.

Oil companies were in the markets for meeting their import payment obligations. Bankers said that the weakening in oil prices also failed to make any impact, since the weighted average import prices continued to be high.

However, if the present trend of softening oil prices continues, then the average import price is also likely to reduce, traders said.

Tight liquidity

As a result, liquidity remained tight, evident from the Liquidity Adjustment Facility auctions.

Banks drew Rs 12,775 crore through the repo window. Besides, at the 91-day T-bill auctions, the cut-off yields and the weighted average yields converged. Both these yields were 6.69 per cent. At the 182-day T-bill auctions, the yields were 6.74 per cent. Bankers said that this implied that short-term interest rate expectations were high. The high expectations were despite the release of liquidity through redemption of some of the market stabilisation securities, during the last few weeks. As a result, the 10-year yield to maturity settled at 7.37 per cent on a weighted average basis, up from the previous week's 7.29 per cent.

Low trading volumes

The undertone was weak, evident from the low trading volumes of about Rs 750 crore

Spreads continued to narrow. The spread between one year and 29 years was about 70 basis points. The narrow spreads were more driven by rising short-term interest rates, though at the long-end yields were flat.

The trend was partly driven by the large number of sellers for short-term securities. At the same time, there were neither sellers nor buyers for long-term securities. This was partly because Life Insurance Corporation had already mopped up most of the long-term securities.

Life insurers not keen

Besides, none of the life insurers were interested in making purchases at this juncture, when the outlook for interest rates was bearish.

The bearish outlook was also reinforced by the widening one-year real interest rates. With inflation at 4.02 per cent, based on the wholesale price, the real yield for one year moved up to 2.86 per cent. But, bankers said that these high real yields implied that there could be a correction in the offing, though may not necessarily be in the form of a drop in real yields. It could also be in the form of a rise in inflation, they added.

The high inflation expectation stemmed from the fact that during the last few months, inflation was kept under control, partly through exchange rate adjustments by allowing the rupee to remain strong against the dollar.

However, with the rise in the deficits, sustaining the current high rupee level was not possible, bankers said. Exchange rates could move southwards, especially after the next round of increases in US interest rates, bankers added.

This was evident from the current high forward premia, which was upwards of 3 per cent for up to three months.

This high forward premia was entirely on account of a slowdown in inflows, both current account and non-debt capital account. Slowdown in current account flows was largely on account of exporters deferring their inward remittances.

Foreign institutional investment, a key component in the non-debt capital, has slowed, since some FIIs preferred to wait for the Budget

FII slows

Besides, many of the FIIs have moved back to home turfs, especially since short-term yields in the US have improved.

But, non-debt capital account flows were expected to be reversed, as more non-resident investors begin entering the domestic equity markets, bankers said.

This was partly reflected in the forex reserves accretion. For the latest week, accretions were $811 million, though large volumes came from the recent funds raised by domestic corporates in the form of cross border debt/equity resources.

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