'It's a bumpy road ahead for primary dealers'

Q&A: G A Tadas, Managing Director and CEO, IDBI Gilts

Rising inflation and the prospect of high government borrowings in 2010-11 are giving tough times to bond market participants. G A Tadas, managing director and chief executive of IDBI Gilt, tells Abhijit Lele his views on yields and the strategy to survive in a volatile market. Excerpts:

How has the year begun?
Not bad. Bond yields moved up, continuing the trend that set in early in the financial year, due to the huge government borrowing. The market has been very volatile, often responding to varied views on managing inflationary expectations. It is a shallow market influenced by a few players.

What is the implication for bond houses?
It has put a lot of pressure, especially on primary dealers (PDs) like us who are only into bond trading. The rise in bond yields has been quite sharp in the last 12 months. The closing yield on 10-year benchmark has hardened from around 5 per cent at the end of December 2008 to around 7.66 per cent.

Where are the yields headed?
It is going to be a bumpy ride ahead for PDs due to rising inflation and high government borrowing in 2010-11. The inflation, measured by the wholesale price index, is at 7.31 per cent, above the Reserve Bank of India’s (RBI’s) estimate of 6 per cent for 2009-10. If the trend continues, the yield on the benchmark 10-year paper will move close to 7.8 per cent.

Can you throw light on your turnover and how it has shaped over the years?
Given the volatile market, we have taken a “treasury light” stance. The bond portfolio is close go Rs 100 crore while the treasury bill book varies between Rs 100 crore and Rs 200 crore. With borrowing by state governments rising this year, we have been active in this segment. The outstanding portfolio of state government bonds will be about Rs 50 crore. Our government bond portfolio was Rs 800 crore at the peak.

Are you active in the corporate bond market?
We do not keep much corporate bonds. This is not a very liquid market. Much of business in this segment is on specific requests.

RBI recently issued norms for repo transactions for the corporate bond market. From March 1, non-convertible debentures (bonds) can be used as securities to borrow from the money market. Instead of lying idle in the investment book in absence of an active sport market, corporate debt will be used as a collateral to borrow funds from the repo market. The government has spoken about a slew of reforms to give a push to the bond market, especially to facilitate fund-raising for infrastructure projects.

You are one of the recent entrants in the bond trading segment. In view of growth in volumes, has IDBI Bank, the promoter, infused additional capital to support business activity?
With a large government borrowing programme, the onus on PDs to participate in bond auctions has grown substantially this year. The borrowing is expected to remain high even in the next financial year. Hence, PDs need extra capital to growing volumes.

RBI has asked standalone bond house to increase the minimum net owned funds from Rs 50 crore to Rs 150 crore. IDBI Bank recently pumped in additional Rs 80 crore, which took our capital base to Rs 180 crore.

You are into the third year of operation. Do you intend to focus only on trading?
We will grow business in bond trading, our core activity. There are also plans to board-base operations to include more revenue streams, which will provide us stability. The advisory business looks promising. Many small cooperative banks, provident and pension trusts need expert advice for investments. Another area we are looking at is trading in derivatives like interest rate futures and selling government bonds.

When do you expect to break even? Are there plans to infuse further capital?
The company is targeting break-even in the next financial year. Keeping with RBI’s norms for doing business in permissible activities other than trading, we will expand our capital base to Rs 250 crore.