Bond yields fall to over 16-mth low due to rate cut hopes

Government bond yields dropped sharply and fell below the eight per cent mark on Tuesday due to dovish statements made by the central bank in the fifth bi-monthly monetary policy review.

Though the central bank kept the repo rate unchanged at 8 per cent, the Street believes when the rate cut cycle begins some time next year, it would continue for some time.

The yield on the 10-year bond ended at 7.97 per cent compared with the previous close of 8.06 per cent. The yield on the 10-year bond yield was last seen near these levels in 2013 when it had ended at 7.94 per cent on July 19.

"The sharp drop in yields was due to very dovish statements by RBI. Even though RBI left the repo rate unchanged, they have given very clear signal that they see a case for change in stance early next year. RBI has also indicated that as and when they change the stance it is not likely that they will just stop with one rate cut," said R Sivakumar, head, fixed income and products, Axis Mutual Fund.

The repo rate was last increased by 25 basis points in the January monetary policy review to eight per cent. Rajan defended status quo in the monetary policy citing saying that he does not want to "flip-flop" on it and is looking for "certainty" on various factors before lowering the repo rate.

Bond yields are seen falling further. "The rally in bond market will continue because the central bank took a dovish stance and there are expectations in the market that a rate cut may happen sooner. By end-December the yield on the 10-year bond may drop to 7.80 per cent," said N S Venkatesh, executive director and head of treasury at IDBI Bank.

The rally in the bond market began earlier this year when the Modi-led government won the elections. The yield on the 10-year bond which was trading above the 9 per cent mark in April has been coming down in the last few months. The yield on the 10-year bond had risen to 9.1 per cent on April 7.