Auction to squeeze liquidity further

Yield on the 8.07 per cent 2017 paper is expected to stay in the 7.45-7.50 per cent band; The rupee is likely to be traded between 44.20 and 44.40 against the greenback; Call rates are expected to hover around 6.50-7.00 per cent.

LIQUIDITY
Rs 6000 cr auction on Tuesday

The tight liquidity conditions would get strained further this week due to the Rs 6,000 crore government bond auction on Tuesday, dealers said. The prolonged liquidity squeeze has pushed up overnight call rates well above the repo rate of 6.50, which has forced several banks to consider raising funds through certificates of deposits (CDs).

Dealers said raising of resources through CDs will provide some liquidity comfort to banks, particularly those with SLR holdings closer to the mandatory 25 per cent of liabilities. The advantage of CD issuances is two-fold: for one, the interest cost will be very competitive as 90-day money can be raised at about 7 per cent; secondly this will lessen the demand for money in the overnight call money market.

Towards the close of the last week, the market witnessed federal bonds recouping Thursday's losses to end higher on Friday, bolstered by the government's decision to lower the amount to be raised this week to Rs 6,000 crore from Rs 9,000 crore, dealers said.

The Reserve Bank of India has announced the auction of 91-day and 182-day treasury bills for a notified amount of Rs 500 crore each, under the regular auction calendar.

"The RBI seems to have recognised that liquidity is tight and fresh issues would not be bought by investors, unless the funds position improved in the banking system," a dealer said.

CALL RATES
May top 6.50%

Money market participants expect call rates to trade in a range of 6.50-7.00 per cent this week. In fact, unless the call rates ease, it is unlikely that the bond market would witness any major activity, a dealer said.

Recap: At the beginning of the previous week, the call rates closed in the range of 7.40-7.60 per cent and gradually fell to 7.00-7.20 per cent mid-week. Last Saturday, the overnight rate ended at 6.80-7.00 per cent. The RBI injected an average of Rs 11,470 crore through the repo window last week.

INFLATION
Levelling of likely

The domestic wholesale price index rose 4.51 per cent on an annual basis in the week ended January 21, higher than the previous week's level of 4.4 per cent.

However, dealers feel that inflation rates are not likely to rise further and would rather seek to get levelled.

Traders said inflation data released during the day offered little support to bonds with prices of manufactured goods continuing to rise amid robust demand in a fast growing economy.

CORPORATE BONDS
Dull week ahead

The corporate bond market is likely to remain quiet this week, involving a certain amount of selectivity. Traders point out that the current levels of spreads aren't truly indicative of the true positions in the market. Dealers expect that the spreads in the market will maintain the current levels. The current spread on a five-year AAA-rated corporate bond stands at 66.77 basis points.

Recap: The State Bank of Patiala raised Rs 750 crore through an issue of bonds to shore up its Tier-II capital. The other issues that closed last week included an issue of non-convertible debentures worth Rs 200 crore by Bank of Maharashtra.

GILTS MARKET
Yields headed further north

Tight liquidity coupled with the auction slated for Tuesday will weigh on gilt prices. Yield on the actively traded 8.07 per cent 2017 government paper is expected to be quoted between 7.45 per cent and 7.50 per cent.

The government would borrow Rs 6,000 crore on Tuesday as against the earlier scheduled amount of Rs 9,000 crore.

"RBI seems to recognise the cash squeeze in the domestic banking system and the fresh issues would be well bid by the investors only if the funds position improved in the banking system," said a chief dealer with a state-owned bank.

Traders expect yields to head higher as investors prepare for potentially higher inflation and more rate rises.

Recap: The lowering of the auction amount bolstered the sentiment in the gilt market. The yield on the 8.07 per cent 2017 paper ended the week at 7.34 per cent from Monday's close of 7.41 per cent.

After close of trading on Thursday, RBI announced that it would auction the 7.46 per cent gilt maturing in 2017 for Rs 3,000 crore through a price-based auction. It would also sell the 7.40 per cent government bond maturing in 2035 for Rs 3,000 crore on the same day.

CURRENCY MARKETS
Strong overseas $ may dent rupee

The rupee is likely to come under pressure this week as the dollar looks steady in the overseas market backed by good interest rate differential and strong payroll data.

The rupee is expected to trade in a range of 45.20-45.40 per dollar taking cues from global dollar movement and FII inflows.

Traders said the rupee might weaken if the dollar consolidates gains against the yen and euro. The market might witness surrogate intervention by the RBI to release some funds in the domestic banking system. This would help the auction to be well bid by investors, said forex dealers.

The hike in the Fed rate has narrowed the interest rate differentials between the United States and India, which will impact foreign capital inflows, a key factor for the local currency's strength.

"Since the US Federal Reserve began a campaign of rate rises in 2004, the interest rate gap between the United States and India has shrunk to 100 basis points from 350, with the US rates at 4.5 per cent and India's at 5.5 per cent. If the gap narrows further it could hurt the rupee since the Indian currency is supported by foreign capital," a dealer said.

Another concern is the sustained rise in crude oil prices. India imports two-thirds of its oil requirements and firm prices are expected to widen its trade deficit to a record $49.7 billion in 2005-06, say analysts.

Recap: RBI muted the rupee's gains by absorbing most of the dollar inflows from FIIs investing in equity market, dealers said. The dollar hit a seven-week peak against the yen ahead of the US jobs report, which could provide clues on whether the US Federal Reserve will continue to push up interest rates. In 2006, so far, inflows from foreign investment have aggregated to $816 million.