Bond markets

The benchmark 10-year bond yield has come down 12 basis points from a 5-week high touched last week, after a higher-than-expected inflation data raised concerns of an off-cycle policy tightening. The Reserve Bank of India (RBI) bought back 8.07 billion rupees of bonds under its open market operations, compared with a target of 100 billion rupees via a multiple price auction, it said late Monday.Thus the buyback was a large disappointment.

The 1-year overnight indexed swap (OIS) rate rose to 5.43 per cent, from Monday's close of 5.39 per cent and from the 19-month peak of 5.62 per cent hit last Friday.

Given the positive IIP numbers and Inflation numbers it is widely speculated from some sections of the market that RBI might increase the rates. After the BWA auctions it is expected the operators would have borrowed close to 8.4 billion dollars (USD 29 billion in total for 3G included) from Banks. It is also speculated there might be a 2 stage rate hike.One before the policy review and one after the policy review.

The lastest WPI number was at 10.16 from a year earlier in May. The outlfow for the payment for 3G and BWA auction has been 1.36 trillion rupees.

Longer yields i.e. 10 year versus 1 year spread has been at 242 bps. We beleive these spreads should widen over the coming days. The recent devolvement which happened only indicated that RBI is not comfortable with the increase in yields. These yields have also been held lower as the Govt. wants to complete its borrowing at lower cost. Last week the banks has borrowed 1.4 lac crore from repo and only 1600 cr. was parked under reverse repo.

The recent inflation data was at 10.16% which clearly showed the inflation rising was not only due to food but manufacturing was also contributing in a big way to the inflationary scenario.

Given the huge inflows from 3G and BWA auctions it was expected government would borrowing less however the government has made an announcement on not reducing its borrowing for this fiscal year. Actually the money offtake from the banks should be around 70000 cr for payment for 3G and BWA auctions.

If the Euro Zone worries persist the bond markets might see a lot of foreign money flowing into the debt market thus decreasing the debt yields further down to 7.30% levels.

It is expected that RBI might increase 50 bps increase in both repo and reverse repo on or before the July policy review. Actually the yields have been extremely volatile given the various statement coming from across the corners of finance ministry and RBI.