Public sector banks seek RBI OMO support for state development loans

Public sector banks have asked the RBI to include state development loans in OMO purchases as SDL spreads widen sharply due to heavy state bond supply

Public sector banks have requested the Reserve Bank of India (RBI) to include state bonds in open market operation (OMO) purchase auctions, sources said. The last time the central bank included state development loans (SDLs) in OMO auctions was in 2020, when yields had surged.

 

“There have been some requests from PSU banks because of the widening spread,” said a person aware of the development. “The last time the RBI did it was during Covid, and it was a very difficult decision,” the person said.

 

Ten-year SDL yield spreads over the benchmark 10-year government bond yield have widened steadily, moving from about 30–35 basis points last year to around 80–92 basis points currently, largely due to the heavy supply of state government securities. While the RBI’s OMO purchases have helped keep 10-year G-sec yields in the 6.60–6.65 per cent range, the focus of these purchases on central government securities has contributed to the widening of spreads.

   

However, experts said the RBI’s past experience with SDL-focused OMOs may limit the likelihood of their inclusion this time.

 

In 2020, the central bank conducted three SDL-specific OMO purchase auctions between October and December, aggregating Rs 30,000 crore across 75 securities. During that period, 10-year spreads for more actively traded states were in the 45–55 basis point range, while those for less liquid states were in the 55–60 basis point range. The impact, however, was limited as purchases were spread thinly across a large number of international securities identification numbers (ISINs).

 

“Due to there being so many ISINs per state, the amount of securities being purchased was very small. Thus, given the moderate response and sentiment towards SDL-focused OMOs during the previous instance, it is less likely for the RBI to include SDLs in its current OMO purchase auctions,” said Harsimran Sahni, head of treasury at Anand Rathi Global Finance.

 

On the other hand, bond market participants expect that the central bank may consider including state bonds in its OMO purchase auctions if spreads widen beyond 100 basis points.

 

“They have conducted OMOs in SDLs in the past, particularly during the Covid period, so the option remains if spreads continue to widen,” said a dealer at a primary dealership. “While the governor has ruled it out for now, there could be reconsideration if spreads move beyond 100 basis points,” the person added.

 

However, the RBI governor had said in the December post-policy press conference that OMO purchases are meant purely as a liquidity management tool and not for influencing yields.