The Hindu Business Line : High oil prices, rate hike concern keep bonds down

Bankers said that oil companies remained active making large foreign currency purchases for meeting their oil import payments. But most of the companies were active only in the spot markets, since few were willing to take hedges in anticipation of a reversal in the rupee's slide. Oil prices have currently yielded about one dollar and have retreated to $76 a barrel. But traders said that despite the reversal in prices on technical correction, the weighted average import price for the country remains well above $70 a barrel or about $530 per tonne.

Tight liquidity

Along with oil companies drawing on their lines of credit, farm credit and corporate credit offtake have also been on the rise during the last several weeks. This has resulted in pushing non-food credit growth to 31 per cent on a year-on-year basis leading to tight liquidity situations. However, there was little impact of this in the liquidity adjustment facility auctions. At the week-end three-day LAF auctions, at least Rs 44,000 crore was mopped through the reverse repo window.

But bankers said that this was largely on account of many of the banks arbitraging between their short-term deposit account inflows and the reverse repo window. In fact, corporates are now parking their temporary cash surpluses in short-term deposits of banks instead of current accounts. Bankers, in turn, are parking these funds in reverse repo window of the RBI earning a small spread in the process.

That liquidity was tight was evident from the high Treasury bill yields at the weekly auctions. The cut-off yield on the 91-day T-bill was 6.44 per cent. The cut-off yield on 364 day T-bill was 7.02 per cent. Traders also expected another small hike in the reverse repurchase/ repurchase rates by another 25 basis points to 6-7 per cent, from the current levels of 5.75-6.75 per cent levels as a result.

The 10-year yield-to-maturity on a weighted average basis rose slightly to 8.41 per cent last week, up from the previous week's level of 8.38 per cent. The high weighted average yield as against the YTM of the benchmark also indicated that there was a bias for hardening, traders said.

Volumes low

Trade volumes also remained low, despite slight improvement over the last few weeks. The daily average trade volume was around Rs 775 crore last week as against Rs 400 crore the previous week. But traders said that this increase was largely on account of the purchases by life insurance companies on their new inflows in unit-linked insurance plans and superannuation funds into the Life Insurance Corporation of India. Though the ULIP flows were mostly into growth plans, insurers said that there was small migration into debt and balanced funds. This had triggered the purchases. Besides, under the new ULIP guidelines, life insurers have the option of offering a guaranteed maturity value.

The bias towards hardening of yields was also evident from the high buy-sell spreads, both at the short-end and at the long-ends. At the short-end, the spreads were about 10 basis points, whereas at the long ends, the spreads were closer to 25 basis points, indicating poor interest for purchases at current yield levels. This was despite the high real yields. The one-year real yield was close to 2.35 per cent with inflation as measured by the wholesale price index at 4.68 per cent. Besides, the yield spreads between one year and 29 years was at 190 basis points, clearly indicating there was little interest in long dated securities in the secondary markets. This low interest was partly due to insurers focus on the equity markets, traders said.

But the factor leading to the low interest in long dated securities was also triggered on account of the profile of deposit accretions. Deposit accretions were mostly at the short end. Consequently, bankers preferred to keep their statutory liquidity ratios also in short dated securities, almost entirely in T-Bills. As a result, the average tenure of the investment portfolios was under one year for most banks. For the private sector banks it was even lower. But credit however was taking place for longer dated maturities, in farm credit, project credit and credit lines to oil companies with longer maturities. This has resulted in pushing up lending rates. In fact, most lending is now very close to the current prime lending rates.

Credit growing

Even at these rates credit was growing as was evident from the high incremental credit deposit ratios of over 100 per cent. But banks were raising more resources for lending, though on much harder terms in the past. The costs of raising tier-II bonds by some of the AA+ rated banks averaged between 9.25 and 9.75 per cent during the last few weeks, anticipating a bigger increase in credit.

But as the Chairman of Canara Bank said, "This high cost will not impact the banking sector, since the net interest margins will remain steady." The margin is currently at 3.25 per cent for the banking sector and has remained there for quite some time. It is likely to remain there as some of the past loans would get re-priced in the coming weeks.

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