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Tech glitch hurts bond rally

Government security prices were the spotlight once again. But the changed trading mechanism to a screen-based terminal caught traders by surprise. Overall, the bull outweighs the trading glitch.

Government securities were in limelight again. Despite the Rs 5,000 crore auction during the week, liquidity continued to drive the rally. But the rally was put-off by the put-off by the start of screen-based trading (Negotiated Dealing System) which kept some participants on the sidelines. This lead to a 50-75 paisa fall at the long-end of the curve and volumes dipped sharply from Rs 6,886 crore in mid-sessions to Rs 3730 crore. Initially, a lower than expected amount of fresh auction of 8.07% GOI 2017 and a cut-off yield of 7.18 matched markets expectation to boost price. The re-issue of this long-dated bond at a lower yield than the 10-year yield (7.21%) signaled central bank's ease with low yield.

With reduced dollar buying by banks and private sector inflows help rupee gain by 5 paisa. This gain came after three weeks of loosing ground. With small outflow from the system, the overnight call rates remained steady and surplus money to the tune of Rs. 20,990 crore found its way to RBI's repo deals.

The Trickle Down Effect begins…..
The bond rally prevails with declining yield – below 8 percent on government securities across maturity. This is beginning to show elsewhere too. The Life Insurance Corporation's guaranteed return plans are the first hit, as it invests almost 65 percent in gilt. The new money coming now has to be invested at lower yields. LIC has closed it Jeevan Shree, Jeevan Sanchay and few other assured return plans. These will be re-launched with lower return assurance again. Even the interest ceiling from company fixed deposits was reduced from 14 percent to 12.5 percent, to the dismay of a high income seeking investor.

Perhaps, the only beneficiaries of the change were bond funds -- gaining an average 0.65 percent during the week. Anticipating the change, the medium-term debt funds held more than 30 percent of their assets in gilt to benefit from declining yield as on January 31, 2002.

Outlook The new automated trading system will usher transparency and speedy to bond trading. However, technical glitches and adapting to the change will be an impediment for a while, which can impact volumes. Beyond short-term, the macro-economic fundamental has gained strength with another disinvestment accomplished this week -- Paradeep Phosphates Ltd (PPL) for Rs 151.7 crore. With falling yields, the differential on the government bonds and small savings look unsustainable. This provides enough leeway for the government to realign small savings rate cut.