The Hindu Business Line : Bond prices firm on liquidity build-up

But bankers said that what partly contributed to softening of yields was the expectation that Government borrowings would remain low. Government borrowings estimated for the second half of this year was Rs 63,000 crore. But traders said that the borrowings were likely to be much lower in view of tax buoyancy. Advance tax collections till September end were estimated at over Rs 38,000 crore, 30 per cent higher than the corresponding period of the previous year.

International oil prices were under $60 a barrel. This was expected to bring down the weighted average import prices for oil companies to about $55-56 range. The reduction in oil prices has pushed down foreign exchange demand and at the same time relieved liquidity tightness considerably, traders said. Besides, bankers said that there were also substantial foreign currency inflows. Inflows are currently estimated at $200 million per day.

Liquidity mop-up

The inflows have resulted in pushing up the Reserve Bank of India's liquidity mop-up through reverse repurchases. At the last weekend's three-year day liquidity adjustment facility auctions, the RBI mopped up Rs 29,070 crore. But at the weekly Treasury Bill auctions, the cut-off yield on the 91-day T-bill was 6.60 per cent, though the weighted average yield was 6.56 per cent. In fact, the lower weighted average yield indicated that some of the bids at the auctions were far lower than the cut-off yields.

The lower weighted yields implied that most of them expected a further southward movement in bond yields. The Syndicate Bank's General Manager, Treasury, Mr D.C. Pai, said, "Given the current liquidity build-up, yields will remain soft for some time."

This expectation was evident from the trend in the 10-year yield to maturity (YTM). The ten-year YTM on a weighted average basis was 7.62 per cent last week, down from the previous week's 7.66 per cent. What was also driving down the yields was some of the banks were moving into long-term securities to improve yield on investments. In fact, this was one of the major factors that was also contributing to the banks' disinterest in Treasury bills.

Trading volumes up

This trend was evident from the pick-up in trading volumes. Trading volumes are currently about Rs 1,200 crore. While the volume was just one tenth of what it was in 2003, expectations of a further increase were optimistic. This was evident from the narrow buy-sell spreads. Buy-sell spreads for up to ten years were barely 5 basis points. These spreads tend to narrow when demand for securities tend to rise. Moreover, the yield spreads between one year and 29 years was down to 115 basis points, clearly close to what it was in 2004. The interest in government securities was also evident from the rising investment deposit ratios. ID ratios are currently at 33 per cent. But most purchases, bankers said were being made on the available-for-sale category. This was because with hardening bond prices (softening yields), banks are beginning to smell large treasury profits

The fundamentals also favoured a further softening of yields, bankers said. This was because the one-year real yield, the difference between the one-year nominal yield and inflation, was 2.27 per cent, clearly 125 basis points over internationally accepted levels. Besides, bankers said the benign outlook on inflation, on the basis of soft oil prices, was expected to translate into stable rates. Bankers said that such a situation was also expected to favour government borrowings for the second half of the year to be kicked off with 10-year and 20-year borrowing for a total of Rs 9,000 crore.

Credit growth upbeat

However, the flip side is that credit growth has gathered pace. Nominal credit- deposit ratio is 72 and the incremental credit-deposit ratio is again over 100 per cent. This has resulted in bankers scurrying for deposits.