New benchmark yield 7.80% 2020 closed 5 bps down

New benchmark yield 7.80% 2020 closed 5 bps down

Highlights:

·         Introduction of a new benchmark yield 7.80% 2020; yield cut-off at lower than the market expectation of 7.85%

·         US Treasury yields traded down due to flight to safety after funds started moving out of emerging economies in lieu of Greece’s Fiscal woes

·         Comfortable liquidity in the system; averaged Rs. 47,227 crore over the week

·         Effective G-Sec borrowing to be little over Rs. 38,000 crore; bonds worth Rs. 26,876 is likely to retire this month

·         Six year G-Sec 7.02% 2016 emerged as the most traded security with average volume of Rs. 5,482 crore

·         Inflation based on Primary Articles moderated to 13.55 per cent against 14.14 per cent reported last week

View & Recommendation:

The sentiment is likely to be positive in bond markets; yields may move down further following surplus liquidity, positive MET forecast, low inflation (in weeks ahead), increased and improved inclination for government bond supply. Corporate bonds have seen their spread shrinking further due to increased FII’s buying interests and many other bond deals pipelined in the weeks ahead. Investors having investment horizon of 6 months to 1 year should invest in Ultra Short Term Funds. Once benchmark bond yields stabilizes at 8 to 8.25% levels, long term investors can consider shifting to Income Funds.

Broader Perspective:

Throughout the week, the benchmark G-Sec 6.35% 2020 lost its significance in the wake of announcement of new benchmark yield. It lost its liquidity and the six-year paper 7.02% 2016 emerged as the highest liquid paper with an average weekly volume of Rs. 5,482 crore. Last week, RBI conducted the auction of “7.38% 2015”, “8.28% 2032” and a new “Ten Year benchmark” for a notified amount of Rs. 5,000 crore, Rs. 2,000 crore and Rs. 5,000 crore respectively. The new 10-year benchmark paper received the highest bidding interest with bid to cover ratio of almost 4 times. The RBI fixed the cut-off yield at 7.80 per cent as against the market expectation of 7.85%. Soon after the yield fixation, the benchmark G-Sec slipped 5 bps and closed at 7.75% on account of bullish sentiments and easy liquidity. The bullish sentiment was further supported by a fall in US Treasury Yields as funds moved out of emerging economies on account of Greece’s sovereign crisis leading to Flight to Safety. Standard & Poor has downgraded Greece’s credit rating to Junk and cut Portugal’s rating by two notches to A-minus. It also cut its ratings on Spain by one notch to AA from AA-plus.

This week, the RBI is going to borrow Rs. 15,000 crore. Moreover, the government will also require paying to Oil Marketing Companies (OMCs) for making up the losses out of subsidies borne out by them. Though the government has expected to raise more than the budgeted Rs. 35,000 crore, the government’s financial strain is continue to worry.

RBI Governor D Subbarao said that high inflation was a big worry for the economy and the central bank would take calibrated approach in unwinding the accommodative measures. He also acknowledged that there could be crowding out of the private sector’s credit needs. Further, Deputy Governor Dr. K C Chakrabarty commented that RBI had not issued an extension to all banks to achieve 70% provision cover and would treat banks’ request on case-to-case basis.

On the liquidity front, the liquidity as measured by bids for reverse repo/repo under LAF (Liquidity Adjustment Facility) averaged Rs. 47,227 crore last week. The average CBLO rates spooked to 3.56 per cent from 2.99 per cent reported last week; however, the average CBLO volume declined to Rs. 47,445 crore from Rs. 51,112 crore reported last week.

Corporate bonds saw yields moving down last week. The 5- and 10-year corporate bond closed at 8.20 per cent and 8.70 per cent. However, the spread over G-Sec moved up by 13bps and 24 bps in 5- and 10- year corporate bonds respectively.