Nov 02 policy review eyed

Highlights:

• Amid tight systematic liquidity, the RBI announced a special second LAF, a liquidity window for scheduled commercial banks to borrow to the extent of up to 1.0 per cent of their Net Demand and Time Liabilities (NDTL) as on Oct 08 on all days during Oct 29-Nov 04, 2010. The RBI also announced a special 2-day repo auction under the LAF on Oct 30, 2010 which saw a total borrowing of Rs. 11,025 crore under LAF. The RBI also allowed waiver of penal interest, if any for any shortfall in maintenance of SLR on Oct 30-31, 2010 out of these special facilities.

• The buy-back programme as announced by the government did not draw good responses from the market – with bids worth Rs. 3,174 crore tendered against the notified amount of Rs. 12,000 crore. However, the total amount accepted for buy-back was Rs. 2,148 crore only.

• The benchmark bond seemed to lose its appetite after volume shifted to 8.13% G-Sec 2022 as the market expected that 7.80% G-Sec 2020 may not see any auctions further. However, comments from a Finance Ministry official who hinted that the 10-year bond will retain its benchmark status till fiscal year end led to a swift rally in it. Further, the RBI’s special liquidity window led to fall in yields. The 10-year benchmark paper closed at 8.11, down by 3 bps over the week.

• India’s primary articles’ inflation fell to 16.62 per cent in the week ended Oct 16 from 18.05 per cent in the last week while food articles’ inflation fell to a 50-week low of 13.75 per cent from 15.53 per cent a week before.

• Growth in India’s key infrastructure industries, which constitute 26 per cent of IIP figures fell to a 19-month low of 2.5 per cent in Sept compared to 3.9 per cent and 4.3 per cent in Aug and a year ago respectively.

View & Recommendations:

• The special liquidity window announced by RBI may ease the structural liquidity crisis. The RBI is looking to normalize policy rates given high inflation; however, it feared that the QE-II (Quantitative Easing 2 to be announced by Fed Reserve) may bring more capital inflows into the system which will force the RBI to contain the rupee appreciation. This may lead to inflation hike further.

• The market participants have expected a hike of 25 bps in policy rates to be announced by RBI on Nov 02. The market has already factored into the 25 bps hike in policy rates. So, yields might not move significantly if there is hike in policy rates. However, the government may decide to cancel the auction after which the government bonds may witness a rally.


Broader Perspectives:

Bond Front

The buy-back programme announced by RBI did not draw strong interests from market participants. Bids worth Rs. 3,174 crore were tendered against the notified amount of Rs. 12,000 crore. However, the total amount accepted for buy-back was Rs. 2,148 crore. The securities which are bought back are 8.75% G-Sec 2010, 12.32% G-Sec 2011 and 6.57% G-Sec 2011 for notified amount of Rs. 28.97 crore, Rs. 616.35 crore and Rs. 1,502.97 crore respectively. The inflation continued to remain in uncomfortable zone which may allow the central bank to use all its ammunitions, policy rate hikes being the most prominent one. The RBI policy will be announced just before the much awaited US Federal Reserve announcement regarding the much touted QE-II, or second round of quantitative easing. The probability goes high as the US jobless rate hovered around 10 per cent for a third month in October.

The benchmark yield kept on spiraling and touched its near months high of 8.18 per cent. Meanwhile, the borrowing limit in benchmark bond saw a shift in active trading to other yields. The 10-year benchmark paper closed at 8.11 per cent, down by 3 bps. The 8.13% G-Sec 2022 became the most actively traded securities during the last week.

The tight liquidity scenario, an example of structural liquidity deficit led to a hike in interbank call money markets which rose as high as 12 per cent. During the week, the banks borrowed a net amount of Rs. 4.80 lakh crore against the previous week of Rs. 3.17 lakh crore. The Repo and CBLO rate closed at 6.43 per cent and 7.96 per cent, an increase by 72 bps and 261 bps respectively.

The 1/10 year G-Sec spreads fell to 112 bps from 124 bps a week earlier. And the average G-Sec volume reported was Rs. 47,412 crore compared to Rs. 53,776 crore a week earlier.

Bond Supply

The market didn’t have any central government auctions scheduled for this week; however, the SDL (State Development Loans) auctions raised Rs. 8,601.8 crore as against the notified amount of Rs. 8,226.8 crore with the state of Tamil Nadu exercising the green show option to the tune of Rs. 375 crore.

Liquidity

The systematic liquidity remained in deficit mode which allowed RBI to open an additional liquidity window. The liquidity as measured by bids for reverse repo/repo in the LAF (Liquidity Adjustment Facility) auction of the RBI reported a net borrowing of Rs. 4,80,180 crore or daily average of Rs. 80,030 crore.

Corporate Bonds

The corporate bond yields saw a hike in the concluding week. The 10-year AAA bond ended at a yield of around 8.80 per cent compared to 8.76 per cent in the previous week. Credit spreads moved up with 5-year AAA spreads moving up by a basis point to 69 bps levels.

Source: MOSL

Yields to take cues from Inflation and Policy meet

Highlights:

• The bonds remained jittery throughout the week; however, it settled down at low levels as compared to last week closures.

• The Industrial Output Data as measured by Index of Industrial Production (IIP) rose a more-than expected 13.8 per cent in July 2010, or nearly twice the 7.2 per cent seen in last month.

• Retail Inflation and Food Inflation rose over 15 per cent and 11 per cent, causing a concern for RBI which may hike the rates again.

• The market liquidity remained comfortable with the net absorption of Rs. 27,640 crore under LAF window. However, it would remain in deficit mode going forward.

• The market speculation that the current benchmark paper will be replaced have been put on hold after a Senior Finance Ministry official stated that there is adequate headroom in the current 10-year paper and the bond is expected to last for the entire borrowing in FY11.

View & Recommendations:

• The unexpected factory output at 13.8 per cent plus the high inflation figures may prompt the central bank RBI to revise the policy rates upwards. However, the market has already factored into the 25-bps hike in policy rates.

• Bond yields may soften further in view of global economic environment especially from US i.e. better than expected US Employment data.

• The absence of debt sale in the coming week will keep the demand for debt papers high. The real tone will be set after the mid-quarter policy review this week. Any positive surprise will be greeted with a rally in bond prices. The market is likely to focus on domestic data and policy measures. The policy meet will also review the awaited headline inflation figure due on Sept 14, 2010.

Broader Perspectives:
Bond Front
It is concerned that policy makers are running out of ammunition to control inflation and high factory output is also reigning in strongly; the RBI may go for an upward hike in policy rates. However, the mixed sentiments emanating from global markets are preventing RBI from taking any extreme measures. US President Barack Obama commented that US economy was taking longer than expected time to recover from economic shivers. However, the better-than-expected growth in US employment increased the odds of a fifth interest-rate hike this year.

Bond prices moved up with the 10-year benchmark yield witnessing a drop of 7 bps. The benchmark bond 7.80% 2020 yield nosedived from 7.98 per cent to 7.91 per cent. The comment by the Senior Finance Ministry over the continuance of the current 10-year benchmark bond for the remaining fiscal year 2010-11 boosted the sentiments among traders and investors which lapped the bond to make the prices attractive. He added that the government's preference was to borrow through papers of longer maturity, in order to evenly spread out its outstanding. However, the 8.13% G-Sec 2020 eased only 1 bps to 8.04 per cent. The G-Sec volume was also strong as reported in NDS-OM platform; it showed a daily average of Rs. 12,353 crore over the week. The 1-10 year spread also reported a sharp drop from 168 bps to 149 bps.

Bond Supply
The government auctioned securities worth Rs. 11,000 crore last week. The bonds auctioned were the 7.17% 2015 for Rs. 4,000 crore, the 8.13% 2022 for Rs. 4,000 crore and the 8.26% 2027 for Rs. 3,000 crore respectively. The cut-offs were in line with the market expectations which came in at 7.69 per cent, 8.02 per cent and 8.35 per cent. Five State Governments namely Maharashtra, Punjab, Tamil Nadu, Uttar Pradesh and West Bengal conducted the auction of their State Development Loans for combined amount of Rs. 5,300 crore on Sept 07, 2010. Their cut-off yields were in the range of 8.29 per cent to 8.41 per cent.

Liquidity
The liquidity was comfortable throughout the week as measured by bids for Repo and Reverse Repo auctions in Liquidity Adjustment Facility (LAF). The net absorption amount was Rs. 27,640 crore for this week. This week, there won’t be any auction which will ease off the liquidity. However, the advance tax outflow to the tune of Rs. 50,000 will put the liquidity in deficit mode. The average Call and CBLO rates dropped to 4.65 per cent and 4.28 per cent from 4.77 per cent and 4.75 per cent respectively over the week.

Corporate Bonds
Corporate bonds’ yields fell over the week. The 10-year AAA bond ended at a yield of around 8.71 per cent compared to 8.75 per cent. However, the 1-year bond hardened by 15 bps to 7.95 per cent from 7.80 per cent a week earlier. In the primary market, EXIM Bank raised Rs. 100 crore with 5-year paper and another Rs. 100 crore with 10-year paper with an annualized yield of 8.45 per cent and 8.68 per cent.

Liquidity tightened on 3G outflows; RBI introduced ad-hoc liquidity measures

Highlights:

• Bonds take a break from a continuous 5 week rally; the benchmark bond 6.35% 2020 yield moved to 7.55%, up by 18 bps
• Domestic bond market mirrored US Govt. Bonds; US Treasury bonds’ yields rallied on account of poor consumer spending data
• Liquidity took a major hit; the 3G payments coupled with advance tax outflows put a strain on liquidity
• The RBI announced two liquidity easing measures – additional liquidity support up to 0.5% of banks’ NDTL and 2nd LAF (SLAF) on daily basis
• Call rates and inter-bank rates are likely to go up this week


View & Recommendation:
• With yields easing, fund managers have started increasing the average maturity of income funds, thereby, increasing their ranks in terms of returns.
• Investors looking for investments for a shorter period (6 months - 1 year) should invest in Ultra Short Term Funds (erstwhile called as Liquid Plus Funds) while those looking for a longer investment horizon (1.5 - 3 years) should invest in Income Funds.
• Some of the recommended Income Funds are Birla Sun Life Dynamic Bond Fund, ICICI Prudential Income Fund and Kotak Bond Regular Plan.

Broader Perspectives:
Bond Front
Indian bond markets took a break from a 5-week rally mirroring the movements in US Treasury yields and also incorporating the domestic factors such as liquidity crisis. However, the cancellation of weekly auctions looks distant as the government has other payment commitments such as Cash Management Bills worth Rs. 20,000 Cr, Bond maturities worth Rs. 50,000 Cr in July, cut in Treasury Bills auction size limited to Rs. 22,000 Cr along with government funding to Oil Marketing Companies (OMCs) to the tune of Rs. 14,000 Cr.

Earlier, last week, the bonds rallied after an announcement of probable cancellation of bond auctions this week due to liquidity squeeze arising out of 3G outflows and advance tax payments. The 3G outflows alone is sucking liquidity to an extent of Rs. 67,719 Cr.

The 10-year Benchmark Bond 6.35 per cent 2020 yield shot to 7.55 per cent, up by 18 bps over its last week close. The other heavily traded bond 8.20 per cent 2022 saw yields rise by 17bps to 7.80 per cent on weak-on-weak basis. The average trading volume for G-Secs as reported in NDS-OM platform was Rs. 19,985 Cr. Last week, there were 4 trading days only as the banks were closed on Thrusday (May 27, 2010).


Bond Supply
The government auctioned bonds worth Rs. 12,000 Cr. The notified auction amount was Rs. 4,000 Cr, Rs. 5,000 Cr and Rs. 3,000 Cr for 7.38% G-Sec 2015, 7.80% G-Sec 2020 and 8.32% G-Sec 2032 respectively. The bid to cover ratio was highest (2.5 times) in 10-year benchmark paper, the highest traded paper. The cut-off came in at 7.41 per cent, 7.60 per cent and 8.25 per cent respectively. The government will buyback Cash Management Bills worth Rs. 20,000 Cr this week.


Liquidity Desk
The liquidity was tight last week on account of 3G auction payments by Telecom Companies. Moreover, the advance tax outflows as expected on June 15 have also started putting strain on Liquidity. To ease the pressure, the RBI announced special measures to provide liquidity in the system. The RBI allowed banks additional support under the liquidity adjustment facility. The Central Bank will conduct two rounds of LAF operations. It also permitted banks to avail support of up to 0.5 per cent of their Net Demand and Time Liabilities (NDTL), the steps which will provide an additional liquidity support of Rs. 20,000 Cr. Both the measures would be applicable till July 02, 2010

 Corporate Desk
Corporate bond yields hardened across the tenors. The AAA, 10-year paper hardened to 8.67% compared to 8.60% compared to last week. The 1-year bond traded at a yield of 6.65 per cent. This week, corporate bonds’ yields rose less than the government bond yields. The ten-year benchmark AAA spread shrank to 96bps, down by 14 bps. Corporate bond yields are likely to move higher on account of liquidity worries and interest rate spikes.

Yields softened on robust 3G collections and global cues

Highlights:


• Bond yields rallied for the fifth week straight; 10-year benchmark bond 7.80% 2020 settled at 7.37%

• Euro zone crisis continues to led to flight to safety; funds flowing in to US

• 3G auctions fetched Rs. 67,719 crore to government exchequer, much higher than the government expectation of Rs. 35,000 crore; Broadband wireless auction to fetch another Rs. 15,000 crore too

• Comment from a Senior Finance Ministry official that approval of hike in ceiling on FII’s investment in Sovereign Bonds cheered the bond market during the week

• Liquidity remained comfortable; stood at a daily average level of Rs. 42,779 Cr against Rs. 28,749 Cr reported last week

• The 1-10 year YTM spreads decreased by 21 bps to 254 bps

• Government resorted to 28-day Cash Management Bills again over and above its scheduled weekly auction showing that government’s finances are still under pressure

View & Recommendation:

• G-Sec markets are likely to take cues from policy maker statements and will closely watch the Euro Zone for any developments.

• Markets at shorter end of the curve are expected to take cues from liquidity in the system as 3G outflows might put pressure on short term rates.

• The front end of Corporate Bond curve (1 – 5 years) seems to more attractive compared to overnight rates.
Broader Perspectives:

Bond Front

Indian bond markets rallied for the fifth week straight mirroring the US Treasury yields and also on account of positive cues from the domestic market. Higher than expected 3G auctions collection to the tune of Rs. 67,719 Cr along with comments from RBI Governor and Planning Commission Deputy Chairman that the government may cut down its borrowing in FY 2010-11 aided the rally in bond prices. Moreover, European Debt Crisis including ban on naked Short Selling on selective instruments by Germany led to flight to safety, triggering down the US, UK yields. US Treasury yields also fell due to higher than expected unemployment rate. On the last day of week, the 10-year benchmark bond 7.80 % 2020 settled at 7.37 per cent, a fall of 12 bps against last week close of 7.49 per cent. It touched its weekly low of 7.32 per cent. Global risk appetite battered after Germany banned naked short-selling on selective Euro Zone bonds, triggering fears that there may be more trouble from the region in the days to come.
Inflation Front

On the economy front, the inflation continues to worry government with both its indicative tools i.e. Wholesale Price Index (WPI) and Consumer Price Index (CPI) at double digit level. However, Planning Commission Deputy Chairman asserted that India’s Inflation as measured by WPI may fall further in coming 2-3 months. The market is expecting that the softening of yields including softened inflation numbers in coming months may prompt RBI to stall its exit from accommodative monetary policy. Earlier, the RBI has indicated that they will continue to exit from accommodative monetary measures on a regular basis in the face of demand led pressure on inflation. India’s annual inflation rate based on CPI for Rural Labourers fell to 14.96 per cent in April from 15.52 per cent in March. Primary articles inflation also cooled down to 16.19 per cent in the week ended May 08 from 16.76 per cent a week earlier, however, the food articles inflation jumped to 16.49 per cent from 16.44 per cent in the previous week.
Bonds Supply

The government auctioned bonds worth Rs. 13,000 Cr which were subscribed fully with no devolvement to Primary Dealers. The auctioned bonds were 7.02% 2016, 8.20% 2022 and 8.26% 2027 for amounts of Rs. 5,000 Cr, Rs. 5,000 Cr and Rs. 3,000 Cr respectively. The cut-off yields came in at 7.29 per cent, 7.64 per cent and 7.97 per cent respectively. The bid to cover ratio in 8.26% 2027 were around 2.5 times while remaining bonds witnessed subscribing little below 2 times. Moreover, the auctions of these relative liquid bonds added an increasing interest among dealers and buyers. The government also issued 28-day Cash Management Bills (CMB) at an average yield of 3.9225 per cent.
Liquidity Front

Liquidity as measured by bids for reverse repo/repo in Liquidity Adjustment Facility (LAF) remained comfortable. The reverse repo bids averaged Rs. 42,779 Cr from Rs. 28,749 Cr in the previous week. The liquidity may be under strain following the FIIs outflows in term of Portfolio Outflows and payouts for 3G auction bids. The average call rates and repo rates softened to 3.72 per cent and 3.40 per cent from 3.79 per cent and 3.47 per cent a week earlier respectively.
Corporate Bonds Front

Corporate Bonds saw spread closing up. Five and Ten year’s benchmark AAA spreads closed up by 3 bps at 80bps and 109 bps levels respectively. The ten year AAA bond traded at a yield of around 8.60 per cent, lower from 8.68 per cent observed last week.

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.