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Sedate Week For Bonds

The mild rally in government securities was short lived as the sentiment was bogged down by fears of another OMO. But, if politics overtake economics, bonds could be in for a ride.

Starting off the week with a mild rally at the long-end of the maturity curve, government securities, bogged with the fears of another OMO sword, gave in all the gains towards the end. Initially the cut-off yield of 7.49 percent on the new 15-year GOI paper auctioned early during the week, invited active buying interest and post auction, the paper traded at 7.40 percent. However the Central Bank's decision to convert its ad-hoc Treasury bill pool of 10,000 crore rupees into marketable securities spoiled the mood. The market sentiment became alert as the players anticipated that the Reserve Bank of India might auction these securities through its open market window to suck out liquidity. Awash with plenty of funds, the fresh suction worth 6,000 crore rupees sailed through smoothly without harming liquidity. But over the week the government securities in the 10-20 year segment, fell anywhere between 30 paisa and a rupee. And the 15-year GOI edged up to 7.43 percent.

On the forex front, domestic currency slipped by 5 paisa in the beginning of the week to touch 48.94 rupees against the dollar, but appreciated later on, as strong export remittances came to its rescue. Moreover a bit of stability in international crude oil prices is keeping a lid on further depreciation in the rupee value. In the money markets, despite an auction outflow and a bank strike, call rates traded in the narrow range. But the absence of lenders on the eve of reporting Friday saw the rates firm up to 7.00-7.50 percent levels. However the repo activity slowed down during the week, with daily auction amount falling below Rs 10,000 crore for the first time in the current fiscal.

But the precarious macro economic picture is likely to deteriorate further. Finance Minister Yashwant Sinha's bold budget moves, to cut subsidies and rationalize taxes are all likely to be rolled back as the scandal shaken government may exchange reforms for populist measures. The hike in prices of cooking gas has already been rolled back by half the amount and pressures are mounting on Sinha to do away with the dividend taxability and the income slabs which were created for availing tax rebate. While the government may cite these moves as economically unsustainable amidst current slowdown in the economy, the fact of the matter is that coalition allies in the National Democratic Alliance are up in arms. The roll back is expected to dent government treasury inflows by Rs 8, 000 crore. Therefore a likely overshooting of the budgeted borrowing target of Rs 1.49 lakh crore is a distinct possibility in the current fiscal.

Outlook
Should politics overtake economics and the coalition government gets shaky following the BJP's complicity in the communal violence in Gujarat, bond markets could be taken for a ride. Moreover, with banks requiring a higher CRR maintenance on account of an inflated deposit base towards the end of the last fiscal, call rates are likely to firm up.