Bond market discounts RBI's hawkish stance

10-year yields at near-three-year low on rate cut hopes

After announcing the Reserve Bank of India’s annual monetary policy last week, Governor D Subbarao said he saw “little space” for further rate cuts. But bond dealers seem to have a far more optimistic view.

The yield on the 10-year benchmark government paper on Thursday dropped a sharp nine basis points to close at 7.61 per cent, which is close to a three-year low. Since the policy statement on May 3, yields have softened 14 bps.

Expectations of a lower April headline inflation are acting as an immediate trigger, while the bond market has already factored in another 50-bp policy rate cut in the near term — of that, 25 bps in the next policy review on June 17.

“Yields are falling because the Wholesale Price Index (WPI) data next week is expected to be benign. The market expects the WPI for April to drop to 5.40 per cent or even lower, due to the high base of last year and a fall in vegetable prices,” said a government securities dealer with a large private bank. The WPI-based inflation for March had risen 5.96 per cent after an annual uptick to 6.84 per cent in February.

Trading volumes on Thursday crossed Rs 1 lakh crore, according to data released by Clearing Corporation of India, compared with around Rs 84,000 crore yesterday.

The bond street views RBI’s statement as a cautious one and says, if inflation falls, the central bank will cut the repo rate further in the mid-quarter review of the monetary policy.

“Subbarao’s guidance is like a caution statement. But the market is expecting another rate cut on the back of a further fall in WPI,” said a government securities dealer with a public sector bank. RBI sees March-end inflation at five per cent, though it said inflation might remain sticky, around 5.5 per cent, in the current financial year.

The Street is expecting the repo rate to fall to 6.75 per cent this financial year from 7.25 per cent at present. The rate cut would be front-loaded and done in two tranches. “The yield on the 10-year benchmark government bond is heading towards 7.40 per cent,” said Anoop Verma, vice-president (treasury), Development Credit Bank. According to him, the market is also expecting RBI to conduct more purchase of government bonds through open-market operations (OMOs) which will lead to a further fall in yields.

The central bank has also maintained it will infuse liquidity by using different tools, including cuts in cash reserve ratio and OMOs.

In the current financial year so far, RBI has conducted one OMO. In that, on Tuesday, it bought government securities worth Rs 9,6

 

58 crore, against the notified amount of Rs 10,000 crore.