Further repo rate cut hopes stoke bond market

The expectations of further repo rate cuts this financial year has boosted trading volumes on both government and corporate bonds. Investors are buying because with a further fall in interest rates, the price of these bonds will increase further.

Data from the Securities and Exchange Board of India (Sebi) show  trading volumes in April were Rs 1.11 lakh crore compared with Rs 36,038 crore in April 2012, a jump of about 200 per cent, about the highest since January 2007. This month, the trading volume is already at Rs 84,758 crore, compared with Rs 38,512 crore in May 2012.

“Interest rates will fall further. There are also flows from foreign institutional investors towards these bonds. In this market, investors are booking profits and they are also taking fresh positions,” said Ramesh Kumar, senior vice-president (debt) at Asit C Mehta Investment Interrmediates.

The yield on the 10-year AAA-rated public sector undertaking (PSU) corporate bond has dropped to 7.62 per cent from 8.79 per cent from April 1. The yield is expected to drop further, resulting in cost of borrowing reducing for companies. “We will see more issuances, due to which trading volumes will be high,” said Ajay Manglunia, senior vice-president, Edelweiss Securities.

Issuances are expected to also pick up because the base rates of banks are still high. “While the market volumes have been dominated by AAA-rated PSUs, issuances by companies have also seen a substantial increase. Considering that base rates of banks are still high, better rated corporates have started looking at bond issuances as a viable substitute for their funding needs ever since the yields have started easing. Issuances and trades in AA-rated papers has also seen a gradual increase over the last couple of years,” said Pradeep Madhav, managing director of STCI Primary Dealer.

The spread between the 10-year benchmark government bond 7.16 per cent 2023 and the  10-year AAA-rated PSU corporate bond is currently at about 50 basis points (bps). As yields are expected to fall further, this is expected to narrow. Since this financial year began close to two months earlier, the Reserve Bank of India has cut its repo rate by 25 bps earlier this month. Economists are anticipating a further cut of 50 bps in 2013-14l due to easing inflation. The rate is now at 7.25 per cent.