The Hindu Business Line : Bond traders cautious ahead of Credit Policy; shorts in demand

Bangalore, Oct. 21 Bond traders remained cautious ahead of the peak season Credit Policy announcement and Reserve Bank of India’s aggressive interventions to mop up liquidity.

Bankers said that the spiralling oil prices failed to impact domestic liquidity. Oil prices have already touched $90 a barrel in the international futures markets. Oil companies continued to remain active, though mostly in the spot markets, cancelling their forward covers. As a result, forward premia remained soft.

Besides, traders said the RBI continued its interventions in the foreign exchange markets, though entirely through swaps. The swaps were mostly for one-month duration, through spot purchases and 30-day forward sales. As result, one-month forward premium remained soft at 0.6 per cent.

However, the turmoil in the equity markets, from the sell-off by foreign institutional investors, RBI intervention and oil companies’ purchases pushed down spot dollar-rupee exchange rates to Rs 39.79 last weekend from Rs 39.33. Long forward premia however remained soft with three month, six month and 12 month at 1.31, 1.11 and 1.16 percent respectively, implying that the outlook remained firm for the rupee.

This was largely on account of inflows through banks, mostly from non-resident Indians for subscription to the proposed equity sell-offs from public sector enterprises, including the power sector financier Rural Electrification Corporation. The outflows by hedge funds notwithstanding, the net inflows in the form of short-term capital remained positive. According to data from the Securities Exchange Board of India (SEBI), last week the net FII inflow was in excess of $1 billion.

LAF auctions

Foreign exchange inflows resulted in banks taking recourse to the reverse repurchase window at the weekend liquidity adjustment facility auctions. The recourse to the reverse repo window was Rs 31,950 crore from 30 bids.

But at the weekly Treasury Bill auctions, that included liquidity mop up through issue of market stabilisation securities, yields firmed. The cut-off yield on the 91-day T-bill was 7.10 per cent up from the previous week’s 6.98 per cent. The bids amounted to Rs 8,772.50 crore (competitive was Rs 7,672.5 crore and non-competitive was Rs 1,100 crore), as against a notified amount of Rs 3,500 crore. The retention was Rs 4,600 crore. Similarly, cut-off yield at the 182 T-Bill auction was 7.45 per cent and the retention was Rs 3,000 crore as against the bids of Rs 5,315 crore. During the week, the RBI also mopped up another Rs 10,000 crore through issue of 5.87 per cent 2010 and the 11.30 per cent 2010. The cut-off yields to maturity (YTM) on these securities were 7.80 per cent 7.86 per cent respectively.

The heavy interventions and the FII sell-off had their impact and the softening of yields halted. The ten-year YTM remained at 7.92 per cent on a weighted average basis, down only two basis points from the previous week’s 7.94 per cent.

The undertone was stable with a bearish bias. This was evident from the daily trade volumes that were just about Rs 3,500 crore on the CCIL’s electronic trading platform. Most of the traders were in favour of short dated securities with maturities under one year. T-Bills accounted for at least 40 per cent of the trade volumes.

The low interest in long dated securities was also evident from the high bid-offer spreads. The spreads for securities with tenures over 10 years were at least 20 basis points. This was largely because most banks preferred to remain derisked ahead of the Credit Policy. This was also because banks expected a credit push from the RBI’s peak season credit policy.

Besides, fears of hikes in reserve ratios have abated after SEBI clampdown on hedge funds. Says the Union Bank of India Chairman and Managing Director, Mr M.V. Nair: “We are not expecting changes in the CRR, if FII-driven flows slow down.”

Above all, bankers said, with inflation down to under just about 3.07 per cent on a year on year basis, the one-year real yield was about 4.3 per cent. For real yields to narrow, the options were limited — softer nominal yields or higher rates of inflation. The latter, bankers said were unlikely in view of the RBI’s inflation focus. However, an inflation spike was not an unlikely scenario in view of the pass through effect of oil prices. The weighted average oil import price was already above $80 a barrel that was yet to be passed on to users. Once this is done, a yield correction was a likely fallout.

Bankers said that credit remained a worry. But deposits were growing. Since the beginning of this year, despite redemptions of bulk deposits, deposits have grown by close to 10 per cent.

Credit has grown by only 5 per cent for the same period. Incremental-credit deposit ratios are currently 48 per cent. But incremental cash-deposit ratios of banks are about 41 per cent, implying that the bankers preferred to remain liquid. In fact, with investment-deposit ratios at close to 32 per cent, bankers said few need additional investments at this moment even for meeting their reserve requirements.

Concerns were also mounting as asset yields shrink. Average yield on assets are already down to 8.5 per cent for most of the banks.

Given this situation, bankers said, the high deposit rates are likely to come under downward pressure, as bankers fix sights on defending margins.

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