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Bonds Bounce Back

Bonds made a comeback as war fears receded. The yield on the 10-year benchmark closed at 7.77% on Friday -- down 17 bps over the week. Despite the auction next week, the market is likely to stabilise around current yields.

Bonds after lying low (literally-speaking!) for a while rebounded. No sooner had the war clouds disappeared, there was hectic buying in the market. As a result, the yield on the 10-year benchmark (11.03%, 2012) touched a high of 8.20% on Wednesday but closed at 7.77% on Friday -- down 17 basis point over the week. Initially, bonds which were already suffering on account of the gilt scam, fell further due to heightened border tensions. In fact, the benchmark lost Rs 1.56 by Wednesday on low trading volumes but gained ground towards the end of the week. The sentiment turned upbeat as the government privately placed securities worth Rs 6,000 crore with the central bank, instead of going in for a normal auction, which could led to an erosion in liquidity from the markets.

Owing to the tight money market liquidity, RBI preponed the effective date for the CRR cut by a fortnight. This means Rs 6,000 crore will be released into the system now on June 1 instead of June 15. This will offset the liquidity crunch created by the scheduled auction of government securities worth Rs 6,000 crore by next week. Which, in turn, will soften the yields on bonds. Call rates too will stabilise, which have been on the higher side for some time now, hovering above 7%, which was the case even this week.

The war fear also impacted the domestic currency. The rupee plunged to a low of 49.04/$ due to the escalating border tensions and lack of commercial inflows. The rupee finally ended the week strong at 48.99/$ on Friday as banks offloaded excess currency (dollar) build-up ahead of the PM's speech in Kashmir. Poor demand from importers also helped the rupee to appreciate. Overall, the rupee gained 4 paisa over the week. Meanwhile, the forex reserves came down from $55.71 billion to $55.57 billion in the week-ended May 17, 2002.

On the economy front, there is some good news to cheer about. The infrastructure sector has registered a growth of 5.9% in April this year as against a 0.3% fall last year. This was mainly on account of good performance by cement and petroleum, which registered 10.6% and 10.1% growth, respectively. The sector contributes 27% to the Index of Industrial Production (IIP). Beginning the new fiscal on good note is a boost for the Indian economy and could have a positive impact on other sectors as well. However, it's too early to say aything but every drop in the ocean counts.

Outlook
On account of the Rs 6,000-crore auction, which is scheduled for next week, there will be more activity in the 15-20 year maturity segment. With war fears lessening, the bond yields should stabilise around current levels.