Bond yields may harden in March: Jajoo

Though analysts expect RBI to remain on pause mode in the near future, markets are likely to trade cautiously

Fixed income markets turned bearish last week with yields across bonds and money markets nudging higher. At the G20 summit the previous weekend, while developing countries expressed concerns over the collaterals of the Fed tapering on their economies, developed countries emphasised on the inevitability of the tapering. While a broad consensus was reached on more elaborate communication by central banks from advanced economies, the imperative of structural reforms in emerging world was equally under focus. The RBI governor yet again made clear the importance of a credible fight against high inflation for sustainable growth, both during the summit and in subsequent interaction with the media. Fed chief Janet Yellen at the concluding part of her testimony before the Senate confirmed the continuation of tapering barring an unforeseen significant change in current outlook.

 
The US 10-year bond yields spiked to 2.7% for a while but retraced back to 2.65%, remaining unchanged for the week, due to safe haven buying on concerns over Ukraine. Benchmark 10-year government bonds which have been trading in a tight range over previous two weeks, sold off to hit an intra-week high of 8.94%. However, RBI governor also spoke about RBI’s preference for a gradual attack on inflation and suggested that extant rates are appropriate for the current inflation trajectory implying thereby that rates won’t be hiked in next monetary policy review. This brought in some bargain buying by foreign banks helping the benchmark 10 year bonds close with some recovery at 8.86%, up 7 bps for the week.

One silver lining was continued resilience of rupee which traded stronger at 61.76 vs 62.13 in the previous week, supported by strong inflows from offshore bond sales by domestic corporates. The AAA 5-year and 10-year corporate bonds broadly ended on a flattish note after a brief spike in yields mid-week when government bonds yields were also trading higher. After market hours, Q3 GDP growth came in at 4.7%, subdued by contraction in manufacturing and mining output. April to January fiscal deficit stood at Rs 5.33 lakh crore, higher than revised FY14 estimates of INR 5.25 lakh crore.
 

Liquidity conditions remained comfortable and the overnight rates stayed close to repo rate. Liquidity adjustment facility borrowings were relatively stable around Rs 28,000 crore while marginal standing facility balances were slightly higher at Rs 1,435 crore from Rs 93 crore last week. Driven by continued strong supply from banks, CD rates continued to inch higher. Three month PSU Bank CD rates rose 12bps from 9.68% to 9.80%, while 1Y CD rates ended 4bps higher at 9.77% from 9.73%.

 
As a credible inflation targeting approach comes to the forefront with the recent comments from RBI governor, bond yields may not ease significantly despite the stronger rupee and improving outlook for global bonds. Some analysts have expressed apprehension that once the impact of the significant fall in vegetable prices in last two months wears out, inflation may spike again. Even though analysts expect RBI to remain on pause mode in near future, markets are likely to trade cautiously. After the recent spike, while the short term rates seem toppish, more so given RBI’s commitment to inject adequate liquidity, some more hardening in March can still not be ruled out.

 
Mahendra Jajoo is Executive Director & CIO -Fixed Income at Pramerica Asset Managers