The Hindu Business Line : Bonds rally on receding inflation, rise in bank deposits

But traders said that the rally was also driven by expectations of further policy interventions from the Reserve Bank of India to ensure a stable liquidity in the financial market. The interventions last week came in the form of another round of repurchase of market stabilisation securities.

Last week, the RBI offered for repurchase the 7.55 per cent 2010 and the 5.87 per cent 2010 MSS securities. The offer resulted in at least 90 bids being accepted from banks, resulting in infusing about Rs 9,000 crore of liquidity. Bankers said that a large number of bids at the auction were from private sector and foreign banks. These banks have been strapped for liquidity for some time now, borrowing in call markets at high rates. But the repurchase securities were priced at yield to maturities of 6.71 per cent and 6.61 per cent respectively, implying a downward bias.

The infusion notwithstanding, high credit off-take provided little respite from a tightening liquidity situation. The tightness was evident from the week-end liquidity adjustment facility (LAF) auctions. The recourse to the repurchase window, the RBI’s purchase of securities, amounted to Rs 6,800 crore. Recourse to the reverse repurchase window was Rs 16,015 crore, mostly from successful bidders at the MSS auctions.

Traders said that some banks preferred this option since call rates were mostly below five per cent towards the week-end. Besides, some banks anticipated liquidity tightening next week.

The tightening was expected in view of high credit offtake. Credit is currently expanding at about 30 per cent on a year-on-year basis, the highest level since 2006. Besides, the credit-deposit ratio remained high. Incremental CD ratio this year so far was 85 per cent.

Traders said that oil companies also drew down on their balances for meeting foreign currency import payment obligations. Coupled with oil demand, foreign institutional investors (FIIs) also remained massive sellers during the week selling about $602 million of equities. But some FIIs, instead of pulling out, have parked in short-term treasury bills and government securities, hoping to book profits, anticipating further policy interventions from the RBI.

Exchange rate

As a result, the rupee-dollar exchange rate breached the Rs 50 mark. However, exporters stepped in to lock into the current exchange rate, hedging up 12 months. Only the one-month forward premia firmed, largely on refinery covering. Forward premia for one, three, six and 12 months settled at 6.60 per cent (6.16 per cent), 3.98 per cent (4.44 per cent), 2.43 per cent (2.61 per cent) and 1.68 per cent (2.09 per cent). Cash to spot forward premia also retreated since foreign banks had taken advantage of the MSS and therefore had little requirement for overnight rupee resources.

However, domestic banks increased their investments in government securities. The preference had its impact at the weekly Treasury bill auctions. The cut-off yield on the 91-day T-bill retreated to 7.31 per cent, down from the previous week’s 7.35 per cent. The weighted yields, however, remained almost steady at 7.26 per cent, as against the previous week’s 7.27 per cent. But the bias favoured long-term securities, evident from the sharp drop in the 364-day T-bill yield to 7.09 per cent and a weighted yield of 7.06 per cent. This bias was also apparent from the bid-to-cover ratios. The bid- to-cover ratio for the 91-day bill was 2.96 times, whereas for the 364 day T-bill it was 4.37 times.

‘Longs are in’

This trend benefited the Rs 9,000 crore Government borrowings during the week, through reissue of the 7.56 per cent 2014 and the 7.94 per cent 2021 securities. The cut-off yields on these securities were 7.16 per cent and 7.42 per cent respectively. The bid-to-cover ratios for these securities were 7.11 and 7.39, clearly indicating that the bias in favour of long-dated securities, prompting a wry trader comment, “Shorts are out, longs are in.” Even the state government loan auctions for Rs 4,850 crore during the week saw bid to cover ratios of four times, implying the chase for long dated securities.

The ten-year YTM reflecting this sentiment moved down to 7.24 per cent on a weighted average basis, down 38 basis points from the previous week’s level of 7.52 per cent.

The undertone remained positive. This was evident from the high trade volumes. Average daily trade volumes were over Rs 13,000 crore per day. During the week, the average deposit inflow into the banking system further increased to about Rs 3,500 crore per day mostly from panic stricken investors fleeing the equity markets. The beneficiaries of the deposit inflows were largely public sector banks. The outlook, as a result, remained positive. This was evident from banks raising allocation to their marked-to-market portfolios ahead of further intervention by the RBI. Bankers said the interventions are expected to be in the form of a reduction in the reverse repo rate. Most of bank securities are currently in the held-to-maturity category.

Moreover, bankers said that sharp interest rate reductions are unlikely in the immediate future. This is in view of the zero interest on cash reserve balances. Interest on CRR balances was discontinued in 2005. However, some of the central banks have begun offering interest on reserve balances, as a form of recapitalisation of banks. The Federal Reserve Board, for instance, began offering interest on reserves of transaction balances linked to the Fed funds rate.

Besides, bankers said that few preferred further reduction in the SLR, most of them preferred widening of the securities to include, other categories of government securities, such as subsidy bonds and SBI/UTI bonds. This would result in augmenting their liquidity for lending purposes, they added. However, some PSU banks are already poised to push down deposit rates since yields on G-secs have already fallen. Lending rates could follow later, they added.