The Hindu Business Line : Bond yields harden on RBI intervention

Bangalore, July 1 Bond yields hardened after strong interventions by the Reserve Bank of India and signals that this stance would continue for some more time.

In a speech, the RBI Governor, Mr Y.V. Reddy, conveyed that the preference was to align domestic inflation with global rates, which translated into an inflation of 3 per cent. This is a clear indication that the RBI was unlikely to back-off from the aggressive pursuit of containing liquidity build-up. Moreover, oil companies returned to hedge their payments as global prices remained firm at $71 a barrel. This was now likely to push up the weighted average crude import price to about $69 a barrel. Along with oil companies, capital goods importers and ECB borrowers also begun hedging, after a brief lull taking advantage of the low forward premia level. As a result, forward premia firmed to 2.25 per cent for three months, though for six and 12 months it remained steady at last week’s levels. The firm trend was also partly triggered by the paucity of short-term dollars, triggered by the RBI’s interventions in the foreign exchange markets.

Simultaneously, the RBI also mopped up liquidity through three Treasury Bill auctions during the week, beginning from Monday. In the first 91 day T-Bill auctions, the cut-off yield was 7.14 per cent and the RBI mopped up Rs 5,000 crore. At the second, the cut-off yields rose 9.39 per cent as the RBI mopped up Rs 4,600 crore. At the 182 day T-bill auctions, the cut-off yield was fixed at 7.66 per cent and the mop-up was Rs 2,500 crore. Besides, during the week, advance tax payments by the banks and corporates also ensured tight liquidity.

LAF auctions

At the weekend liquidity adjustment facility auctions instead of the reverse repo window, banks took recourse to the repo (placement of securities with the RBI for liquidity). In the two LAF auctions the RBI lent at least Rs 9,895 crore. The tightening of liquidity reflected in the 10-year yield to maturity (YTM). The 10 year YTM ended the week at 8.21 per cent on a weighted average basis, up from the previous week’s 8.19 per cent.

The undertone remained weak and was evident from the low trade volumes. Daily trade volume remained at Rs 1,000 crore during the week. Besides, the outlook also remained weak, apparent from the high bid-offer spreads. The spreads were about 20 basis points, an evidence of the low trading interest among market participants.

Moreover, the yield spreads also remained narrow at 70 basis points. The low trading interest was also evident from the incremental investment-deposit ratio of barely 10 per cent. Most banks preferred to remain derisked — implying the preference for short duration securities, that are perceived to be liquid. The preference has seen banks building up an armoury of short dated securities, switched from life insurers. This is one of the major factors leading to an almost flat yield curve. Yields, therefore, were unlikely to show any sharp falls.

The Vijaya Bank’s Chairman and Managing Director, Mr Prakash Mallya, said: “If the target is containing money supply, then there is unlikely to be any sharp retreat in yields.” Although inflation appeared to have backed off and one-year real yield hit a three-year high of 3.7 per cent, the threat of inflation still remained, bankers said. The pointer to this was from the current high international oil prices that are yet to be passed on to the domestic consumers. Besides, M3, the broad money supply continued to grow at 21 per cent, well above the nominal GDP growth of 15 per cent.