Primary dealer fees rise over 40x as RBI lures them to underwrite auctions

The central bank is offering commissions as high as 50 paise per Rs 100 face value for a bond maturing in 2050, compared with just 1.24 paise on April 30, 2020

The underwriting commissions offered to primary dealers have never been this high, and yield management exercise so pronounced, as the Reserve Bank of India (RBI) tries desperately to manage a massive borrowing programme for the government at a more than a decade-low cost.   

The central bank is offering primary dealers (PD) underwriting commissions as high as 50 paise per Rs 100 face value for a bond maturing in 2050, compared with just 1.24 paise on April 30, 2020. This is an over 4,000 per cent rise in commissions for underwriters, who despite this, are under immense pressure as the central bank devolves (forces the PDs to buy) auctions one after another.  

On Friday, the central bank had to devolve one more auction. Of the Rs 26,000 crore bonds scheduled to be sold, RBI devolved Rs 6,736 crore maturing in 2035 on PDs. On Thursday, it successfully conducted a Rs 22,000 crore special auction, albeit by indirectly buying from the market as a party itself, market participants say.  

In Friday’s auction, the RBI didn’t even sell the full amount of Rs 5,000 crore it had planned through the 2050 maturity bonds. Instead, it accepted partial interest of up to Rs 3,500 crore, while exercising greenshoe options for the rest of the two bonds to raise Rs 2,000 crore and Rs 625 crore extra. 

 

The central bank is apparently aimimg to keep the 10-year bond yields below 6 per cent. As yields fall, prices of bonds rise and vice versa. A low yield, according to RBI governor Shaktikanta Das, is a ‘public good’. But the tension is palpable. On Wednesday, it brought down the 10-year bond yields to 6 per cent by doing disproportionate buying on the 10-year segment in an open market operation (OMO), a programme through which the central bank buys bonds from the secondary market. On Thursday’s special auction, the 10-year yields fell below 6 per cent after the RBI’s suspected behind the scene actions.  

On Friday, though, the 10-year yield is back to 6.05 per cent.  

“The auctions were stretched. It is a test of nerves between the RBI and the bond market. Frankly, the bond market has become greedy, they will now be testing the RBI at every opportunity by pushing up yields, hoping the central bank will come up with OMO measures where the old bonds can be squared off at a marginal profit,” said a senior bond dealer, requesting anonymity.  

Others agree that the central bank is in a peculiar position – being the banker to the government, it has to manage two consecutive Rs 12 trillion plus borrowing programmes at a cheap rate, and at the same time keeping the market well humored but under a tight leash. In the process, the central bank also has to ensure that the quality of its balance sheet is maintained. It is an impossible trinity, according to experts.  

 

“Given the large borrowing programme and improvement in macro-economic conditions, it is difficult to believe benchmark yield would stay below 6 per cent on a sustainable basis. Bouts of volatility are normal. By devolving, RBI is giving signals about its discomfort on the market yields and putting the onus on the market to correct it," said Soumyajit Niyogi, associate director at India Ratings and Research.  

As for the primary dealers, a high commission is hardly any compensation when they are committing to taking up the bonds on their fragile books. The PDs are not capitalised as well as banks and other investors are. Naturally, they are hitting their limits as to how much bonds they can purchase, faster than ever.  

“Unless there are continuous OMOs, where PDs can offload their old investments, participation in fresh auctions would be difficult. But the central bank has done it successfully in the past, and will do it again,” said a senior official with a PD.