Liquidity crunch may continue

Infusion likely at variable rates

Liquidity in the market is expected to remain tight. While a firm range of 8.5-9 per cent for the interbank call rates indicates this, an additional signal has been the runaway rise in the cost of deposits.

Major banks, including the cash surplus State bank of India, have joined the rat race for raising the rates for bulk deposits.

The Reserve Bank of India, in its forthcoming quarterly policy review, is likely to introduce variable rate repo for infusing liquidity in the market. Repo is the mechanism through which the RBI infuses liquidity into the market.

In order to make the RBI the lender of last resort, variable repo will make funds available to market participants at differential rates. While the first leg will be at repo rate, the second leg will be at a higher rate which a bank will tap if it has exhausted all other routes and is in real need of funds, said a market source.

While there are no fixed inflows slated for this week except for the coupon redemption and government security maturity, the market is of the view that inflows might accrue from corporate.

Foreign exchange inflows in the form of corporate proceeds of depository receipts and external commercial borrowings will add to the liquidity. Inflows are also expected to make way into the Indian equity market as well.

Call rates 8-8.5% band seen

The interbank call money rates will continue to hover in the range of 8-8.50 per cent. Market participants are apprehensive of lending excess liquidity fearing an interest rate hike.

If a hike happens, funds will become expensive, thus pushing up overall cost of funds. Thus lending in the call markets will be at a higher cost even above 8-9 per cent, if the RBI opts for a hike.

However, a buoyant equity market is expected to boost foreign exchange inflows from portfolio investors. Dollar buying by oil companies is likely to infuse rupee funds into the market as well.

Intervention by the RBI continues to remain a source of liquidity. The central bank has been infusing money through purchase of government securities, which is otherwise referred to as repo.

Otherwise, the market is not expecting any major inflows or outflows from the system this week.

Repo is the liquidity adjustment facility under which banks take cash by pledging government securities. In the foreign exchange market, the RBI will continue infusing liquidity by buying dollars.

Treasury bills Yield cut-off hinges on policy

The RBI will auction 91-day and 364"�day t-bills to raise a total of Rs 4,000 crore. The cut-off yield will be primarily moved by the announcement of the monetary policy review which is expected to raise both the repo and reverse repo rates to counter the rising inflation.

The RBI had already raised the yields for 91-day and 182-day t-bills at the auction held last week.

The secondary market trading has also been quite lacklustre. It will continue to remain so. This is because the week is short and traders are sceptical of building position fearing a further rise in interest rates. Therefore, the yields on the t-bills might figure on the higher side .

Players are of the view that once the policy review is over, there might be fresh keenness in treasury bills.

Foreign bankers may be seen as major traders in t-bills, as foreign institutional investors are likely to start their allocation into the Indian markets, both equity and debt.

Recap: At the last yield's auction held last week, while yields on 91-day and 182-day t- bills got pushed up by around 25 basis points and 50 basis points, respectively, from their previous yields of 7.14 per cent, the secondary market trading was also thin. Inflation for the week ended January 13 fell to 5.95 per cent compared with 6.12 per cent the week before.

Government securities Bearish run likely

The government securities market is likely to remain bearish. In order to guard the spiralling credit growth and inflation, the Reserve Bank of India is likely to hike both of its short term interest rate signalling instrument - repo and reverse repo.

The expectation is that the RBI may increase the rates by 25 basis points each or the reverse repo rate even by 50 basis points.

If this happens, the yield in the gilts market will witness a sharp rally pushing up the ten year benchmark to a range of 8-8.20 per cent .

These measures will be taken even as the RBI had already hiked the repo rate by 25 basis points in the last quarterly policy review and cash reserve ratio by 50 basis points.

Secondly, the market is also looking for cues from the open market committee meeting of the Federal Reserve. While it is generally perceived that there might not be any change in the base Fed rate, the statements might be hawkish following the robust economic date in US.

According to market players even as the government has already initiated some fiscal measures like cuts in the customs duty to contain inflation, the results will be apparent only with a lag.

Globally, dollar has been gaining and so is the yield on the US treasury bonds. This could also affect the market sentiment but not this time. Players maintained that the domestic factors this week outweigh overseas factors. Therefore there will be cautious trading in the secondary market. While the week is short , the action may pick up after the announcement sin the monetary policy.

In this backdrop, the yield on the ten year paper is expected to rule in a wide range of 7.70-8.20 per cent. Dealers maintained that the benchmark rate may go up to 8.20 per cent if the RBI opts for a hike of 50 basis point in the reverse repo. If there is no action from the RBI the ten year yield may climb down to 7.70 per cent.

Repo and reverse repo are the daily liquidity adjustment tools of the RBI for infusing and absorbing liquidity respectively.

Recap: The trading in the government securities remained highly rangebound and lacklustre. While the trading was cautious for most part of the week, the bearishness crept in after the RBI hiked the cut off yields for 91- day and 182 day t- bills by 25 basis points and 50 basis points respectively compared to their previous yields of 7.14 per cent. And inflation ruled above 6 per cent.

Corporate bonds May not see much activity

The week ahead may not see much activity of primary issuers as most companies and banks will wait for cues on the interest rate front to emerge from the fourth-quarter monetary policy review.

Credit policy statements are also likely to throw up some light in that direction, said market dealer.

The issuers who have been queuing up for funds include State Bank of India (SBI) and Power Grid Corporation. They were seen scouting for quotes from the market, said a dealer. According to market sources, while SBI is expected to raise around Rs 2,000 crore, PGC is yet to finalise its borrowings plan.

Infrastructure Development and Finance Corporation (IDFC) is in the process of mobilising Rs 500 crore through a bilateral deal with the Life Insurance Corporation of India, but the details could not be confirmed.

The secondary market, however, will remain lacklustre as there will be hardly any interbank trades. Much of the demand for bonds is coming from the need-based buying of provident funds and insurance companies.

The government securities market, which serves as the benchmark for corporate bonds, is likely to remain bearish, awaiting cues from the monetary policy review. Following this, even the bond market may not see much activity.

In the medium term, however, the corporate debt market may witness demand from public and private sector companies for raising funds. This is because rising forward premiums have made the cost of swapping foreign funds into the rupee expensive. This was the advantage of borrowing overseas funds.

Recap: The corporate debt market saw bilateral deals between provident funds and banks. Banks are the only issuers of bonds and provident funds the only buyers, as they do not trade and, hence, have no issues regarding market valuations. Banks or traders such as primary dealers are shy of investing in bonds since they have to mark to market the investments.

With interest rates still remaining uncertain, there have been no major trading in corporate bonds for fears of booking losses, which entails provision of capital.

Rupee To trade in a wide range

The spot rupee is likely to remain rangebound as the market is expecting well matched demand and supply.

Corporate proceeds of depository receipts and overseas borrowings will continue to be the source of supply. This is because since the spot rupee is on an appreciation mode, most companies are realising their proceeds for fears of losing on the valuation front.

The equities market has been on a roll, and it is anticipated that there may be good foreign exchange inflows from portfolio investors as well.

On the other hand, the demand for dollar may pick up on month-end requirements of both oil and non-oil importers. Since the rupee is gaining against the dollar, most oil importers are seen buying dollars.

This also helps in keeping import bills low and, thus, deflate the inflationary pressure arising out of the oil payments.

Globally, data are expected from various countries "� Japanese industrial production, consumer confidence figures in the US and Europe, and the outcome of the Federal open market committee meeting in the US.

While most of them would not have a direct impact on the spot rupee, cross-currency movements might have effects, said dealers.

Along with this, the central bank is coming out with its fourth-quarter monetary policy review. If it hikes its short-term interest rates "� repo or reverse repo, the premium paid for booking forward dollars will inch up further.

Tight liquidity has, over the weeks, kept forward premiums on the higher side following the rise in the cost of rupee funds. It is expected to remain so this week as well.

The cost of rupee funds affects premiums as booking forward dollars requires banks to pay premiums in the form of rupees, which has become expensive following the tightness in liquidity in the money market.

In this backdrop, the spot rupee is expected to rule in a wide range of 44.15-44.50 to a dollar.

Recap: The spot rupee remained rangebound within 44.15-44.30 for most of the week. While the dollar supply from corporate and portfolio investors buoyed the spot rupee, the dollar strength overseas and demand from oil companies pulled it down.

However, the dollar strength overseas could not make a dent on the spot rupee as the yen was on an appreciation mode. However, concerns on liquidity played an active role in the forward market. The annualised premiums for forward dollars continued to remain high both on account of the high cost of the rupee and the oil companies' demand.

Post Script :

The cut-off yield for the 182-day t-bill was raised by more than 50 basis points to 7.75 per cent last week from 7.14 per cent.