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Having A Ball

With the issue of a 30-year paper at 7.95%, the yield curve though elongated, it has become flat. An open market sale is likely to check any sharp fall in bond yields.

Government securities market registered marginal gains over last week, with medium- to long-term liquid and illiquid securities in focus. The major sentiment driver was the most-awaited issue of 30-year government bond, sold at a yield of 7.95%. The 10-year benchmark (7.40% 2012) touched a low of 7.11%. Following RBI's sudden announcement of an OMO of worth Rs 6,000-crore, the 10-year benchmark inched up to close the week at 7.14%. The OMO was aimed at sucking out excess liquidity, with Rs 10,000 crore being released into the system through redemption of a government bond. At the short-end of the market, while overnight rates were dull, RBI repos continued to get a good response, with the apex bank mobilising Rs 72,290 crore. The domestic currency strengthened by another 4 paisa against the dollar to reach 48.50, at which state-run banks stepped in to prevent the rupee from rising further.

Though the week started off on a cautiously-optimistic note, with market players expecting the government to issue the 30-year paper at 8% levels. The expectations were met and the bids were oversubscribed by almost two times, reflecting a case of too much money chasing too few quality assets. Hence, the cut-off price was set high, resulting in a yield of 7.95% for the 30-year bond. This is 197 bps higher than the 364-Day T-Bill yield and 80 bps more than what it costs to raise a 10-year paper. Clearly, the government is making the most out of low yields. And to keep the interest alive in the Rs 7,000-crore auction, the RBI announced an open market sale post-auction.

Even the RBI annual report mentions that market borrowings have worked out cheaper as compared to other sources -- such as small savings and provident funds -- in the last fiscal. No wonder, the report also says that borrowings may breach the targeted Rs 1.43 lakh crore, to aid drought-affected regions. The central bank has assured that this will not affect interest rates, as banks are flush with funds. Besides, while the RBI has shown skepticisim about the economy growing by 6-6.5% this year, it is bullish about the factors favouring growth. Unlike last year, thankfully there have been no major scams, foreign direct investments witnessed a record-increase in 2001-02, forex reserves are in plenty, and the inflation is low. The apex bank has declared a positive economic outlook. In a nutshell, for bond markets, it means a fairly smooth ride in the near-term.

Outlook
After the open market sale on Saturday, government bond rally is likely to take a breather, although fears of another such sale still loom large. On the rupee front, considering the apex bank's desire to build up foreign exchange reserves, rupee liquidity is likely to keep the system flush with funds.