The Hindu Business Line : Inflation concerns, FIIs' pullout dampen bonds

Bankers said what also pushed down bond prices were attempts by some oil companies to sell their investments in a bid to raise funds for crude import payments. But foreign exchange demand was no longer being supported by interventions by the Reserve Bank of India (RBI). Instead, the markets were being pushed into a free fall. Bankers said this was because any intervention by the RBI would result in squeezing liquidity. There was no intention to drive up interest rates at this juncture, especially when the economy was on a robust growth path, they said.

Tightening liquidity

As a result, the week-end response to the reverse repo window at the Liquidity Adjustment Facility (LAF) auctions remained buoyant notwithstanding the turmoil in the equity and foreign exchange markets. The RBI mopped up over Rs 66,000 crore through the reverse repo window. However, at the weekly Treasury Bill auctions signs of a liquidity tightening became apparent. The yield on the 91-day T-bill moved up to 5.74 per cent and the 182-day T-Bill yield moved up to 6.18 per cent.

The wide spread between the 91-day and the 182 day conveyed that the bias was clearly in favour of short-term papers, in anticipation of a further hardening of interest rates.

The bearish expectations was reflected in the 10-year yield to maturity (YTM). The 10-year YTM on a weighted average basis moved up further and was close to 7.69 per cent, up from the previous week's 7.63 per cent. That the undertone was weak was evident from the low trade volumes. Daily trade volumes remained under Rs 500 crore.

Trading in shorts

In fact, most trading was for short tenor G-Secs. Normally it is the Life Insurance Corporation, provident funds and public sector non- life insurers who have appetite for long duration securities. But insurers continued to shy away from the G-Sec markets. The reason for this abstention is evident.

The Corporation Bank Chairman and Managing Director, Mr B. Sambamurthy, said, "Interest rates will go up further." This implied that insurers were waiting for yields to rise further before stepping up purchases.

The signs of a yield hardening were evident from the high buy-sell spreads. These spreads remained at around 10-15 basis points at the short end and over 25 basis points at the long ends, indicative of low buying interest. The weakness was evident from the high yield spreads. The yield spread between one year and 29 years was 180 basis points, implying a steep yield curve.

Narrowing real yields

But real yields continued to narrow. Real yields fell below 2 per cent after a gap of almost three months. The narrowing real yield was entirely on account of the advancing inflation. Yet this did not indicate that nominal had peaked. In fact, traders said they could rise further in the coming weeks.

Traders in fact preferred to wait for the signal from the RBI's reissue of the 9.39 2011 papers and the 30-year paper amounting to Rs 10,000 crore. Yet, the interest for the papers was low key from bankers.

Part of the reason was that they already were compliant with the Statutory Liquidity Ratio of 25 per cent. In fact many of the banks were above these levels. In fact most of the banks preferred to have them as close to the SLR as possible.

Credit offtake buoyant

Moreover, traders said despite the squeeze on the real estate sector and tightening of provisioning norms for the personal loans segment, non-food credit growth has not slowed down.

Non- food credit dropped slightly during the latest reporting week by Rs 756 crore. Yet, despite the slight fall bankers said non-food credit growth would remain buoyant.

In fact, the incremental credit deposit ratio continued to remain above the 100 per cent zone. This means that deposit rates are likely to see further increases in the coming weeks.

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