CRR hike dents bonds

MARKET ROUND-UP

Bonds slumped the most in almost three months, the biggest fluctuation in any government debt market today, after the central bank unexpectedly increased the amount that lenders must set aside to cover deposits.

Ten-year yields reached the highest in almost eight months after the Reserve Bank of India raised the key overnight lending rate by a quarter percentage point to 7.75 per cent on March 30 after the markets closed. The measures may cut demand at government debt sales to begin as early as this week for the financial year that began on April 1, said Satyakrishna Devarakonda, a bond trader at state-owned Andhra Bank in Mumbai.

"It will be difficult for the market to absorb the supply,'' he said. "Liquidity is tight currently and they've taken these measures to ensure it remains that way.''

The yield on the 8.07 per cent bond climbed 17 basis points, or 0.17 per cent, to 8.17 per cent as of the 5:30 p.m. close in Mumbai, according to the central bank's trading system.

This is the highest since Aug 8. The price of the security fell 1.11 per 100-rupee face amount to 99.31, the biggest drop since Jan 12. Yields move inversely to prices.

The yield on the benchmark bond may rise to 8.5 per cent by the end of June, a six-year high, Satyakrishna said.

On March 30, the central bank also asked banks to increase the amount of cash they set aside as reserves by 0.5 percentage point to 6.5 per cent by April 28, effectively draining Rs 15,500 crore ($3.6 billion) from the banking system.

The federal government plans to sell bonds worth Rs 92,000 crore in the six months till Sept 30 as a part of its annual borrowing programme and will sell debt worth Rs 10,000 crore between April 5 and 12, according to the auction calendar.

The Reserve Bank also stepped up the sales of the so-called stabilization bonds meant to absorb surplus funds resulting from its purchase of dollars in the foreign-exchange market. It will sell bonds worth Rs 6000 crore tomorrow.

"We can expect some more increase in reserve requirements and more intervention by them,'' Satyakrishna said.

Central bank Governor, Yaga Venugopal Reddy, battling inflation near the highest in more than two years, wants to contain the rate to within 5 per cent in the "medium term.''

The central bank "uses multiple instruments to ensure that appropriate liquidity is maintained in the system, consistent with interest rate policy and the objective of price stability,'' Reddy said in speech yesterday at the Bank of Greece in Athens.

India's annual inflation rate, measured by wholesale prices, rose as high as 6.73 per cent in the week ended Feb. 3, the most since December 2004, and stayed at 6.46 per cent for three straight weeks through March 17, according to the Ministry of Commerce and Industry. It has been above 6 per cent every week this year.

"They're worried about inflation, growth in loans and excess liquidity,'' said A. Prasanna, a fixed-income strategist at ICICI Securities, a Mumbai-based primary dealer that underwrites government debt sales. Last week's action "is a clear signal that they haven't yet done with interest-rate increases.''

The yield on the benchmark bond may climb to as high as 8.5 per cent by the end of May, he said. The security's yield rose by 39 basis points last quarter, the most since the three months ended June, Bloomberg data shows.

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