Bond markets awaits borrowing calendar; yields to remain under pressure

Highlights:

•  The 10-year benchmark (6.35 per cent 2020 G-Sec) traded in range bound; closed at 7.85 per cent, up by 2 bps


• The average volume under Reverse Repo remained at Rs. 15,500 crores


• Inflationary pressures to continue; unwinding of accommodative measures by RBI to continue


• Non-food inflation also factoring into the overall inflation figures; will remain high in near term


• Borrowing calendar for the fiscal year 2010-11 to be announced on March 29, 2010; expected to be front-loaded


• Short-term yield curve to remain under pressure; G Sec spread for 5-1 years and 10-5 years at 220 bps and 39 bps respectively

Detailed View:

The policy rate action by RBI post market hours left traders dazzled on Monday and the yield on 10-year benchmark (6.35 per cent 2020 G-Sec) soared to 8.03 per cent, its 18-month peak before easing to 7.85 per cent, up by 2 bps over its last closing. This immediate reaction in the market was inevitable after RBI raised short term policy rates by 25 bps. Post action, the repo rate and reverse repo rate stand at 5 per cent and 3.5 per cent respectively. During the week, the yields on the benchmark G Sec remained in range bound and closed at 7.85 per cent, up by 2 bps. One basis-point is one-hundredth of a percentage point. Traders have been waiting eagerly for the weekly borrowing calendar to be announced on Mar 29 and expect that most of the borrowings are scheduled to be front loaded (60-70 per cent of total gross borrowings) in the first half of the fiscal year. The market will also keep a watch on the tenure of the bond issuances. The government has indicated that it would raise Rs. 4,57,000 crores from market in 2010-11, up by Rs. 6,000 from last year’s gross borrowing. Traders have been demanding short to mid term papers to be the major part of borrowing schedule in first half of the fiscal year following high inflation, unwinding of accommodative monetary policies by the central bank etc.

The RBI has been under high pressure on soaring inflation which is on continuous rise and has already touched near to 10 per cent. The inflation which used to be mainly due to food prices’ factors has moved to non-food prices’ factors too. Fuel inflation soared to 12.5 per cent for the week ended March 13. It might continue to remain high after the recent oil price hike by the government. Manufacturing inflation is also running at 4 per cent level and is expected to remain high as manufacturers pass the rising input costs to consumers.

The yields on 5-year 7.32% 2014 G-Sec rose by 6 bps to 7.24 per cent while 7.02% 2016 yield rose by 8 bps to 7.46 per cent.

On the liquidity front, the liquidity as measured by bids for reverse repo/repo under the Liquidity Adjustment Facility (LAF) remained comfortable with average bids for reverse repo amounting to Rs. 15,000 crores in the concluding week.

View and Recommendations

The yields at the shorter end of the curve will remain under pressure as the market would be witnessing a new round of borrowing next week onwards.
Liquid Fund and Ultra-short term debt funds (erstwhile called as Liquid-Plus Funds) should be the preferred choice for investors looking to invest their surpluses for a short duration (3-6 months) while for an investor having investment horizon of 9-12 months should invest in Income Funds. On return basis, LIC MF Income Plus Fund – Growth, IDFC Money Manager – Invest Plan – Growth and Kotak Floater – LT – Growth have been the front runners in Liquid Plus category in 6-months horizon. In Income Fund category, some of the actively managed funds are Fortis Flexi Debt Fund – Growth, Birla SunLife Dynamic Bond Fund – Retail – Growth and HSBC Flexi Debt Fund – Retail – Growth scoring 10.33 per cent, 8.27 per cent and 7.28 per cent respectively in 1-year category.
New FMPs have been flowing into the market on a continuous basis. Investors looking to lock-in their investments for a longer period (13-20 months) can consider this avenue as they will also get Double Indexation benefit (if invested before March 31, 2010) which will reduce the tax outflow on their FMP earnings.