The previous week's open market operations by RBI and a state government auction made bond market players cautious this week. Though trading volumes were high, government bond yields nudged lower initially. But a rising yield curve in the US bond markets and the announcement of a Rs 8,000-crore state loan auction resulted in hardening of the yield curve.
As a result, the 10-year benchmark (2013, 7.27%) yield firmed up from 5.53 per cent to 5.56 per cent. There was marginal upward movement in the yields across maturity spectrum. The sharp upward movement was also witnessed in the primary market yield of the 91-day T-bill, which went up from 4.95 per cent to 4.99 per cent. In fact, ever since the RBI trebled the 91-day T-bill auction amount to Rs 1,500 crore, the yield has hardened from its low of 4.38 per cent to the current level. This could be seen as a move to realign the short-end of the yield curve. Since late April, yields on both 91-day and 364-day treasuries have been much below the repo rate level of 5 per cent. The repo rate serves as the benchmark rate for a very short tenure of one-three days.
The initial trading sessions started with a positive sentiment as there was a fall in WPI-based inflation below the 4 per cent mark. Current inflation level is much below the 5-5.5 per cent level stated out by RBI in its monetary policy of April 2003. However, there were no substantial gains of low inflation as the yield curve remained flat. The announcement of Rs 8,000 crore state loan auction on August 25 kept buyers away.
A sharp rise in the US treasury yields and a critical comment by RBI governor that "the bank is keeping a flat yield curve under the microscope" drove yields northwards later this week. This essentially meant that the apex bank is keeping a close eye on the low differentials between the long-term and the short-term interest rates. Ironically, this statement came immediately after the governor had raised the GDP growth expectations to 6-6.5 per cent in light of better than expected monsoon and fall in inflation. Thus the gilt yields across the curve firmed up by 0.01-0.02 per cent.
On the liquidity front, there was no rush for funds as call rates remained flat. However, the subscriptions to RBI repos had certainly thinned down. The daily average inflow into RBI repos has come down to less than Rs 20,000 crore in the past two weeks. For the large part of this fiscal, weekly average inflows have been much above Rs 20,000 crore.
The rupee got stronger this week, gaining 7 paise over the week to reach Rs 45.83 against the US dollar.
Liquidity could be the key driver next week as RBI pulls out Rs 8,000 crore under the debt buyback scheme of state governments. As a result, bond markets may move in a narrow range.