The Hindu Business Line : Bonds retreat on technical correction

Bangalore, Nov. 9 Bonds retreated last week cutting short their rally on technical correction and on banks shifting resources to meet credit requirements.

Bankers said that with the reduced Statutory Liquidity Ratio (SLR), many banks reduced their holdings in Government securities. The SLR is the mandated holding of Government securities by banks as a proportion of their net demand and time deposits. The Reserve Bank of India reduced SLR to 24 per cent on November 1.

However, a banker said, “We are not selling but we are not immediate buyers either from the secondary markets.” Instead, the focus is on new bond offerings from the Government.

Last week, for instance, the Government had put on sale two securities — the 8.24 per cent 2018 and the 8.32 per cent 2032. Both the securities were picked up at YTMs (Yields to Maturity) of 7.73 per cent and 8.44 per cent respectively. The rush for the securities was also largely because most banks and traders had anticipated high cut-off yields as against the market yields.

But some, particularly private sector banks, with large marked to market holdings, sold securities to book profits. This was largely because these banks rarely have high Government security investments. Instead, they mostly stick to the statutory limits, with a focus on the net interest income. As a result, most foreign and private sector banks reduced their holdings of G-Secs. But bankers said that during the week, oil demand also contributed to the up tick in yields. With the exchange rates becoming favourable and low international oil prices, refiners began hedging their crude purchase requirements. The import basket prices are currently $56 a barrel, down from the July average of $132. The rupee-dollar exchange rate was down to Rs 47.76, against the previous week’s Rs 49.25. The firm exchange rates were despite marginal inflow from foreign institutional investors of just $100 million during the week.

Forward premia

Forward premia remained firmed as a result of refineries and importers’ hedging. One month remained high at 7.07 per cent (7.31 per cent). Three, six and 12 months premia hardened as importers took long forward cover at 4.44 per cent (3.25 per cent), 2.81 per cent (1.79 per cent) and 1.95 per cent (1.32 per cent) respectively. Besides, exporters deferred their inward remittances, anticipating a reversal in the rupee uptrend. Crisil’s chief economist, Dr D.K. Joshi, said: “In the short run a rupee reversal is likely, though the economy’s fundamentals remain strong.”

Behind the expectations were concerns of further rampage by foreign institutional investors. FIIs normally sell hard towards the end of calendar year, which is their accounting year-end. Consequently, traders said, are the sharp drops in the equity. As a result, there are fears that the rupee could once again depreciate sharply.

Despite the oil company demand in the markets, traders said, there was little RBI intervention in the foreign exchange markets. The only intervention was in the form of extending 90-day foreign currency swap line to banks with global operations. A swap line is the exchange currency between two counter parties. This swap line also contributed to increasing the 90-day forward premia. Essentially, this line implied that the RBI would provide 90-day foreign currency credit line to be reversed at the end of 90 days.

In addition, during the week, the buy back of the 6.65 per cent 2009 and the 5.87 per cent 2009, improved the liquidity.

The buyback resulted in an inflow of approximately Rs 10,000 crore. The improved liquidity was also evident from the thin cash to spot forward premia. Cash to spot forward premium that was in double digits last week was down to 5.03 per cent.

Moreover, RBI also offered a special 14-day repo of Rs 48,275 for onward credit lines to mutual funds and non-bank finance companies. However, there were few takers for the special repo facility, in view of the change in the liquidity situation.

Banks were suddenly flush with liquidity, which was evident from the recourse to the reverse repurchase window at the weekend Liquidity Adjustment Facility (LAF) auctions. At the two auctions, the net recourse to the reverse repo window was Rs 19,350 crore. The improved liquidity situation was also evident from the retreat in the Treasury Bill yields during the week. At the weekly 91-day T-Bill auctions, the cut-off yield dropped to 7.39 per cent, down from the previous week’s 7.44 per cent.

However, the ten-year YTM hardened 30 basis points on a weighted average basis last weekend to 7.72 per cent. This was despite the second phase of the Cash Reserve Ratio cut coming into effect from Saturday. Traders said that the hardening was largely driven by the high credit offtake.

Tightening on cards?

The credit reflected in faint signs of an impending liquidity tightening. This was evident from the reduced daily trade volume.

Daily average trade volume was about Rs 7,100 crore during the week or down from the previous week’s Rs 9,100 crore.

Banks, since the beginning of this financial year, have seen a credit deposit ratio of 90 per cent largely driven by non-food credit growth.

Non-food credit grew at 29 per cent for the fortnight ended November 2. Besides, most public sector banks maintained high investments in the Held to Maturity category, after absorbing deprecation losses. As a result, there was little interest to trade.

Currently, the guidelines allow for holding up to 25 per cent of the net demand and time liabilities are allowed to be held in the held to maturity category. Consequently, bankers need very little Government securities at this moment, since most of them already meet the prescribed guidelines.

Anticipating this credit tightening, corporates drew on their credit lines even at high rates. At present, banks are charging close to 14 per cent on loan disbursements. In addition, traders said that some oil companies also drew down on their credit lines for meeting their payment obligations, ahead of the Government issue of Rs 63,000 crore of oil bonds.

But the corporate panic notwithstanding, rates are likely to slip further in the coming weeks. Said the Punjab National Bank Chairman and Managing Director, Mr K.C. Chakraborty, “Rates will come down, but there will be a lag.” Bankers said that deposit accretions continued to flood the banks. Time deposits with the banking system grew at 22 per cent, as reverse disintermediation accelerated from the equity markets.

Bankers said that these inflows could continue as investors flee equity markets to safe havens – public sector bank deposits. The yield slide is therefore far from over, despite inflation at 10.72 per cent.

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