It was a terrible week for the Indian bond market. Surging international oil prices along with robust economic growth have raised fear of a hike in the domestic interest rate. The US light crude price crossed $50 per barrel this week. On the other hand, India's GDP grew by 7.4 per cent in the first quarter of FY 2004-05. Inflation fell to 7.80 per cent for the week ended September 18 from 7.87 per cent in the previous week. But this fall in inflation is assumed to be a short-term term correction, as the high global oil prices will definitely increase the inflation in times to come. Assuming its consequences, alarms rang loudly on Bond Street. The yield on the 10-year bond has already touched 6.38 per cent on Friday - up 36 basis points over the week.
The case was not that severe at the very start of the week. In the previous week, the Prime Minister had commented that the hike in interest rates was not the right way to contain the supply side-fuelled inflation acted as a cushion. But this failed to restore investors' confidence for long, as global crude oil prices touched a new high of $50. The 10-year yield climbed to 6.23 per cent on Wednesday from 6.03 per cent last Friday.
Indian bond markets, however, received some good news on Thursday. The government decided to issue only short-term treasury bills under its market stabilisation scheme (MSS) in the quarter ending December 2004. That apart, the robust growth of the Indian economy in the first quarter of 2004-05 buoyed market sentiment.
Then came the big day - Friday. The 10-year yield moved up 19 basis points. Though inflation fell to 7.8 per cent, the main reason for such a sharp movement in the yield was the market's perception that the rate hike is almost imminent in the forthcoming RBI's Monetary Policy on October 26, 2004.
The average trading volume over the week dropped to nearly half - from Rs 4,320 crore to Rs 2,324 crore this week. Though most of the banks were out of the market on Thursday due to half yearly closing, the volume remained low on other trading days. The liquidity remained comfortable with call rates hovering below 4.6 per cent mark.
The rupee closed at 45.89/$ on Friday with the loss of a paisa over the week. However, on Wednesday the rupee touched a low 46/$ on rise in global oil prices, but rallied on Friday as US light crude closed 14 cents down at $49.50 a barrel after hitting a high of $50.47 earlier in the week.
Outlook
The RBI's Monetary Policy Statement is due on October 26, but the market is already expecting a rate hike. And there's a valid logic to it. Since the Indian economy has grown at a good pace in the first quarter of the FY 2004-05 (GDP growth of 7.4 per cent), there are no more bottlenecks on the demand side. Hence, to match this with the supply side-fuelled inflation, the RBI is now left with no other option but to increase the domestic interest rate. Though there hasn't been any official comment on the same, unless international crude oil prices starts declining, bond market players are unlikely to expect any goodies.
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