Tactical trades may turn out to be winners: Jajoo

Fixed income markets registered further gains amidst another round of volatility in a shortened trading week due to two holidays. Early in the week, higher than expected inflation print triggered a sharp sell-off with benchmark 10 year government bond breaching past the 9% mark for the second time in two weeks of new fiscal 2014-15 but then recovered with double ferocity to close the week 9bps lower at 8.85%. A large auction of Rs 20,000 crore was subscribed aggressively with cut-off slightly better than secondary market levels on the back of strong institutional demand, redemptions of Rs 43,547 crore and a huge term repo of Rs 60,000 crore.

 
Headline WPI inflation came sharply higher at 5.70%, handsomely beating consensus of 5.25% and more than 100 bps higher than 4.68% previous month. More alarmingly, core WPI spiked to 3.5% from 3.15% last month even as IIP was reported at a dismal -1.9%. Headline CPI for March stood at 8.31%, slightly higher than 8.10% previous month. Core CPI though trended lower at 7.90% from 7.80% last month. As CPI is the current reference index for monetary policy, the slip in core CPI combined with above 9% yields on 10 year bond triggered massive value buying pulling down 10 year bond yield to an exciting 8.85% by end of the week. Forex markets remained listless with major currencies trading in a narrow band including rupee which weakened marginally to 60.29 vs 60.18 compared to previous week. US 10 year also remained range bound in volatile trading in 2.65%-2.75% band, closing at 2.72% on strong initial jobless claim data on Friday. Five year AAA corporate bond yields fell 7bps to 9.67% from 9.74% and 10 year AAA bonds yields eased 5bps from 9.75% to 9.70%.

 
This being a holiday shortened reporting week overnight rates initially remained on tighter side around 8.75%. However lumpy inflow from government bond redemptions and announcement of 15 day term repo of Rs 60,000 crore helped normalise the overnight rates near the repo rate. The weighted average cut off at the term repo auction also fell to 8.12% from 8.39%.The liquidity adjustment facility borrowings reduced to Rs 11,200 crore from Rs 17,800 crore. There were no marginal standing facility borrowings. The three month PSU Bank certificate of deposit rates fell 2bps from 9.02% to 9.00%, while one year bank CD rates ended lower by 3bps from 9.25% to 9.22%. With the restriction on FIIs buying in T-Bills, not surprisingly, 91D and 364D T-Bill yields inched up marginally to 8.83% and 8.93% respectively, up 5 bps each for the week.

 

After registering sharp volatility in past couple of weeks since start of FY15 where 10 year yield breached past 9% mark twice but was pulled down immediately on strong institutional buying, the market should now be settling down in current range of 8.80-9.00% band. While softening core CPI, stable rupee and institutional demand provides support at higher yields, large supplies and global headwinds provides resistance at lower levels. In this phase, tactical trades on auction stocks may turn out to be huge winners. Money markets as mentioned last week also, are likely to remain listless for now.
 
Mahendra Jajoo is Executive Director & CIO - Fixed Income at Pramerica Asset Managers