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Fear Grips Bond Street

Higher crude oil prices, appreciating dollar, more-than-expected inflation and a possible rate hike in the US weighed down the bond markets

Everything looked negative for the bond markets last week. Crude oil prices are up, the rupee has weakened against the dollar, inflation is below market expectations and the US can hike rates anytime. With all these negative factors, the yield on the 10-year benchmark (GOI 2015, 7.38 per cent) went up by 7 basis points to 6.6 per cent.

The markets weakened on Monday ahead of the sale of state government loans, which could reduce liquidity. The 10-year benchmark shot up by 4 basis points. On Tuesday, there were hopes of the state government loan auction sailing through comfortably without much impact on the liquidity. The dollar weakened against the rupee, which cheered the markets and the benchmark closed 2 basis points lower. On Wednesday, the negative sentiment on the stock markets affected bond markets too, though the benchmark stayed at about the same levels. The RBI raised Rs 1500 crore by a 91-day T-bill auction under the market stabilisation scheme. On Thursday, bond markets stayed stable and the yield went up by 1 basis point. On Friday, though inflation fell below 6 per cent for the first time in thirty weeks, Indian bond markets gained 4 basis points to close at 6.6 per cent.

On Wednesday, the RBI Governor said he estimated the inflation at 6.5 per cent at the end of this financial year to March. Inflation fell from 6.39 per cent to 5.78 per cent for the week ended January 1, which was higher than the market estimate of 5.72 per cent. The February Brent crude oil price went up to $45.21 a barrel from $43.10 in previous week. Call rates ranged between 4.6-4.8 per cent. The US dollar appreciated by 8 paise against the rupee and closed at Rs 43.76. Liquidity remained comfortable through the week.

Bond markets are again jittery with the negatives far outweighing the positives at this juncture. Inflation is not falling in accordance with market expectations. With crude oil prices rising once again, inflation will start impacting the markets in future. If the US Fed raises interest rates, bond prices may rise. A stronger dollar is not good for bonds either. With no auctions till February, bond prices are likely to drift downwards.