Bonds snap three-day gains as rupee falters

By Swati Bhat

MUMBAI (Reuters) - Indian bonds snapped a three-day rise on Tuesday as the rupee tumbled below the key psychological level of 60 to the dollar, raising concerns that the central bank could announce additional measures to support the currency.

The Reserve Bank of India kept the repo rate unchanged on Tuesday, but did not announce any other measures to defend the rupee even as bond yields surged following the central bank's move to drain cash from the financial system earlier this month.

RBI Governor Duvvuri Subbarao said the central bank was not in favour of a sovereign bond issuance - a measure seen as helping bring in inflows but risky since it could send a signal of weakness to investors.

Indian policymakers are in a tight spot, needing additional steps to defend the currency but having to avoid measures that would be seen as too aggressive.

India's chief economic adviser Raghuram Rajan said on Tuesday the government will announce measures to help narrow the current account deficit - the key source of the stress on the currency - in the next few weeks.

But the government has yet to adopt any specific measures, beyond announcing earlier this month steps to open up more sectors to foreign investment.

"I feel we will see volatility across and await some announcements from the government," said Paresh Nayar, head of fixed income and currencies at First Rand Bank.

The benchmark 10-year bond yield closed at 8.25 percent, up 12 basis points on the day after the yield had initially dropped to as much as 7.99 percent soon after the RBI's policy decision.

Total volumes on the central bank's electronic trading platform were at a moderate 169.60 billion rupees.

Bond prices started their slide as the rupee fell below the 60 per dollar mark, nearing the record low of 61.21 hit on July 8 and giving up all gains made since the first set of cash tightening measures announced by the RBI on July 15.

Traders will continue to monitor the rupee for near-term direction as that is the key parameter the central bank is watching as it frames the future course of its monetary policy.

The benchmark 5-year overnight indexed swap rate closed up 9 basis points at 8.39 percent while the 1-year rate closed up 22 bps at 9.47 percent.

(Editing by Jijo Jacob)