RBI likely to keep key rates unchanged: Jajoo

With overnight lending rates shooting up to 16% in closing hours on Friday, fixed income markets once again witnessed the typical high voltage drama of every fiscal year end. Notwithstanding massive liquidity injection by RBI, to pro-actively address such a situation, liquidity turned extremely tight resulting in spiking of short term rates. Even the 2-3 month bank CD rates spiked up to 11% with cash starved participants left with no choice but to liquidate investment holdings to generate liquidity.

The irony of the whole situation can be gauged from the fact that immediately after the transaction cut-off for current fiscal was over, the same 2-3 month instruments were trading at near 8.60% in secondary market for settlement on opening day of markets in April.

This has become somewhat of an annual ritual in Indian markets due to balance-sheet including capital adequacy ratio management by banks/corporates and consequential asset-liability management other entities, especially mutual funds.

Setting aside the cyclical disturbance caused due to fiscal year end, market sentiments remained largely stable. Rupee maintained the strong momentum, closing at 59.89, the first time it has traded below 60 mark since August'13, again braving further strength in dollar in global markets where $ closed higher at 1.3752 vs. Euro compared to 1.3795 last week and much stronger compared to recent lows of 1.3950. Bond yields remained largely unchanged with some volatility at the margin with benchmark 10Y govt bond yields remaining unchanged at 8.80%.           

Needless to say liquidity remained tight for better part of the week climaxing on Friday with CBLO rates hitting a high of 16% in closing hours. Additional term repos conducted by RBI remained well bid. Outstanding in LAF continued to remain at near maximum permissible limit. Ignoring the spike in Friday, short term rates eased by about 10 bps during the week with 3M bank CD at 9.20% vs. 9.29% and 1Y CD at 9.18% vs. 9.28% last week. Extra MSF auctions to be conducted by RBI on March 31 is expected to draw very good response at 9%.

RBI policy

RBI is not expected to make any change in key policy rates in monetary policy review. Headline CPI inflation is expected to fall further in April. Govt borrowing program for first half of FY14-15 is reasonably well spread out with only 62% of the budget scheduled in H1. In April net borrowings would be small at INR 24K due to large maturities.

Bond yields may move down by 15 bps next week in a tactical move. Short term rates after bottoming out next week may begun to inch up later in April, as the massive liquidity through extra term repos is gradually rolled back.

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