The Hindu Business Line : Bonds stabilise as traders pause to book profits

Bonds stabilised last week after rallying for two weeks as traders paused for booking profits and on apprehension over the possible inflation control measures contemplated by the Reserve Bank of India and the Ministry of Finance.

But most traders have ruled out any possible hike in interest rates in the immediate future. One trader said, "Rate hikes are not likely to take place during this year." In fact, the Finance Ministry has hinted that the current round of inflation was mostly a "supply side" problem. The inference among bankers was that this inflation would be resolved with "supply side solutions", and not with monetary measures.

liquidity situation

What also affirmed traders' beliefs, ruling out any big interest rate hikes, was the current liquidity situation. At the week-end liquidity adjustment facility auctions, the RBI mopped up Rs 24,530 crore through reverse repurchase auctions. Besides at the collateralised borrowing and lending markets, the rates were lower than the RBI reverse repo rate of 6 per cent, at 5.75. Similarly, call money rates were also below the RBI's reverse repo rate. Bankers said that this was evidence that banks continue to be awash with liquidity.

T-bill auctions

Yet despite the strong liquidity situation, the cut-off yields at the Treasury bill auctions were higher. The cut-off yield on the 91-day T-Bill auction was 6.69 per cent last week, up from 6.65 per cent. However, the weighted yield unlike the last six weeks was lower by at least 4 basis points. Besides, the competitive and non-competitive bids made at the 91-day auctions were Rs 2,361 crore and Rs 2,563 crore respectively, as against the notified amount of Rs 2,000 crore. The RBI retained Rs 2,000 crore of the competitive bids and Rs 563 crore of the non-competitive bids. Similarly in the case of the 182-day T-bill, the cut-off yield was 6.89 per cent, though the weighted yields were lower by 4 basis points.

The competitive bids made were Rs 2,105 crore and non-competitive bids Rs 773.18 crore, as against the notified amount of Rs 1,500 crore.

The cut-off yield fixing clearly conveyed the message that liquidity mop-up would continue to remain aggressive in the immediate future given the anticipated liquidity.

With this kind of liquidity situation, there was little upward pressure on ten-year yield to maturity.

The ten-year YTM, in fact, ended the week slightly lower at 7.45 per cent on a weighted average basis as against 7.47 per cent.

The undertone remained firm in the market with the daily trade volume being around Rs 1,500 crore. Spreads between the 30-year and one-year yields further shrank during the week by 80 basis points last week, implying a flat yield curve. The focus was mostly in favour of the long-term thirty-year paper, where insurers picked them up aggressively. As a result traders said yields on the 8.33 per cent 2036 were as low 7.55 per cent on big ticket deals.

Traders said that among the banks, the clear driver was reinvestments of maturing T-bills into longer dated securities, particularly at the middle and longer end. This reinvestment ensured that the investment deposit ratio of the banks remained steady at 33 per cent.

Worries over inflation

The worrying factor was inflation. Inflation last week was 5.45 per cent. This translated into a one-year real yield of 1.5 per cent. As a result, the outlook for the market in the coming weeks was flat. But traders said that yields could slip if inflation expectations were capped at 4 per cent.

The critical element driving liquidity was the large accretions of deposits in the banking system and foreign currency inflows. Deposits grew by over Rs 14,500 crore last week, or 21 per cent on a year on year basis, breaking out of sub 20 per cent growth since the beginning of this year.

Foreign exchange reserves of the country have gone up by over $2.4 billion. If this trend continued, traders said that this year was likely to end with a reserve basket in excess of $200 billion. Large elements of this foreign currency flows were driven by non-debt capital flows and repatriation on the invisibles account, particularly insurance premiums/profits.

Buoyant credit offtake

But traders said that what could change the situation was credit offtake. Credit offtake continued to remain buoyant. The incremental credit-deposit ratio last week was 105 per cent. The non-food credit-deposit ratio alone was 100 per cent. Deposit mobilisation has assumed top priority among the banks.

The focus was on savings bank fund and short-term time deposits in view of the low costs. Few want bulk funds, unless they are available for a minimum of one year. Public sector banks are prepared to pay high rates only if this long period lock-in was guaranteed. Clearly the days of high rates for short-term bulk deposits have ended.