The Hindu Business Line : Bonds pause on RBI interventions, FIIs exit

Bangalore, Jan. 20 Bonds paused their southward momentum on the back of strong Reserve Bank of India (RBI) interventions and foreign institutional investors (FIIs’) exit.

Traders said the interlude in the bond journey was also due to anticipated refunds of mega equity issue by Reliance Power. The Rs 11,700-crore issue had attracted bids for Rs 7.52 lakh crore. The refunds have just begun, leading to temporary tightening of liquidity.

In addition, FIIs sold the equivalent of $979 billion of equities. The temporary tightening, as a result, prompted the RBI to intervene with liquidity support through special liquidity adjustment facility (LAF) auction. At the special LAF, banks took recourse to the repurchase window for Rs 5,400 crore.

However, NRI inflows continued unabated, bankers said. But there was also large arbitrage flows into the country. The funds inflow was largely on account of the drop in US interest rates and high returns for Indian papers. In fact, the funds originated from East Asia — from Japanese and Chinese exits from US treasury papers. The attractions stem from the difference in interest rates. Currently, the difference between one-year Indian paper and the US treasury is about 4 per cent. The effect of the arbitrage flows lifted the rupee to Rs 39.27. The RBI interventions, though, prevented the rupee from making any sharp ascent.

Forward premia

The arbitrage flows led to the firming of forward premia. One-month forward premia firmed to 1.07 per cent last week from 0.92 per cent the previous weekend. Forward premia for longer tenures — 3, 6 and 12 months also moved to 1.84 per cent (1.53 per cent), 1.89 per cent (1.78 per cent) and 1.63 per cent (1.53) per cent) respectively.

The RBI intervention was mostly through buy-sell swaps. The RBI purchased spot and sold forwards to minimise the liquidity impact. The liquidity impact due to NRI flows was evident from the first weekend LAF auction that saw recourse to the reverse repurchase window for Rs 17,320 crore by 13 bank and primary dealers. But for the Market Stabilisation Scheme auctions of the 11.30 per cent 2010 security for Rs 4,000 crore, traders said, the amount mopped up would have been even more. At the MSS security auction, the bids amounted to Rs 12,241 crore. The cut-off yield to maturity on this security was 7.55 per cent.

The RBI’s resumption of MSS auctions had the desired impact. The message conveyed was that the central bank was not prepared to allow short-term yields to drop below 7 per cent. In fact, this is clearly what appears to have happened at the weekly Treasury Bill auctions.

At the 91-day T-bill auction, the cut-off yield moved up to 7.10 per cent last weekend, up from the previous weekend’s level of 7.02 per cent. The weighted average yield also firmed to 7.02 per cent, up from 6.93 per cent.

However, the bids remained high, and the retentions from both competitive and non-competitive bids were Rs 3,200 crore. At the 364-day bill, competitive bids amounted to Rs 6,897 crore, as against a notified amount of Rs 3,000 crore, and the cut-off yield accepted was 7.39 per cent. The high bids for the longer tenure securities implied the long term nature of the liquidity overhang.

Reflecting the high liquidity in the banking system, despite the turmoil in the equity and the foreign exchange markets, the ten-year YTM remained at 7.57 per cent, unchanged from the previous week.

The undertone remained bullish. This was evident from the high daily trade volumes of over Rs 11,000 crore, though they were down from the previous week’s level. The high volumes were largely on account of large purchases by banks and insurance companies.

Mutual funds, life and non-life insurers were large buyersof dated securities during the last week. Mutual funds, particularly ULIP funds of life insurers, made large purchases for their balanced funds during the last week. Besides, non-life insurers who have booked large profits in the equity markets also purchased dated securities.

Outlook positive

Bankers said that the outlook remained positive. This was evident from the high investment-deposit ratio of 45 per cent for the year. In fact, traders said that if deposits continued their current pace of growth, particularly time deposits, the demand for securities are expected to be on the ascent. This demand pushed down one-year real yields, though it still remained way above the internationally accepted levels. One-year real yield is currently at 3.55 per cent.

The State Bank of Mysore Chief General Manager, Mr Dilip Mavinkurve, said: “We can see yields remaining stable for the rest of the financial year.” The stable yields give banks opportunities for booking treasury incomes. Most banks have discounted any drastic change in the RBI’s stance during the current year at the review meeting during the end of this month. This was despite the possibility of another cut in the US Federal funds rate by at least 0.25 basis points.

Instead, bankers said that with liquidity control as the focus, RBI’s reaction was likely to be in the form of another hike in the cash reserve ratio (CRR).

Consequently, there are few moves to cut lending rates at the moment, though bankers are now continuously pruning NRI deposit rates, in a bid to contain deposit growth.

This trend is likely to continue for some more time, as bankers find ways to defend their net interest incomes at current levels.