Bond prices rise as traders shrug off high sovereign borrowings

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Bond prices rose with the resumption of open market operations by the Reserve Bank of India as traders shrugged off possibilities of high sovereign borrowings this financial year.

The price of the 10-year benchmark bond, the 8.15 per cent coupon falling due in June 2022, rose sharply to Rs 99.87 (face value Rs 100) translating to a yield of 8.17 per cent. The previous week, the security was priced at Rs 99.50 or 8.23 per cent.

Nomura Financial Advisory and Securities’ fixed income research strategist Vivek Rajpal said, “Demand for bonds especially from the banking system and Reserve bank of India, in the form of open market operations, will outweigh the supply.”

In fact, the RBI has already announced an open market operation, the coincided with the weak gross domestic product numbers for the second quarter of this year. Traders expect that the RBI would be conducting these operations on a regular basis through the first week of December, as the advanced tax payment season begins. It is traditionally during this period that cash tightens in the banking system.

But cash in the banking system during the last two weeks has remained tight with overnight borrowings from the RBI’s repurchase window (overnight cash support window against collateral of government securities) in excess of Rs 1 lakh crore. Part of the tightening is due to cash withdrawals from banking system for the festival season that extends up to the end of June. The withdrawals have resulted in cash withdrawals of over Rs 44,000 crore this month alone.

Cash tightening was also due to maturing foreign exchange contracts as result of forward sales of dollars that occurred during June this year. Forward sales of dollars remove cash from the banking system. Outstanding forward market contracts in June this year was estimated at $ 14 billion. One of re-infusing the cash was through open market operations. Open market operation is essentially outright purchase of securities by the RBI. The first of these auctions will result in infusion of Rs 12000 crore that was still far short what is presently required.

Along with the open market operations, what also offered comfort to the markets were the low depressed credit market conditions. At the weekend government borrowing auctions for Rs 13,000 crore, bids were a healthy 2.25 times more than the offered amount. The high interest in soveriegn bonds was despite the possibility of an increase in government borrowings this year, by at least Rs 50,000 crore.

The high borrowings though are expected to further tighten cash conditions in the market and traders saw possibilities for further monetary easing. BNP Paribas Asia chief economist Richard Iley commented, “Given the tight liquidity cash reserve ratio cuts in December policy review looks likely.”

But the tightening cash conditions were also partly driven by the foreign exchange markets, where energy, fertiliser feedstock, coal and pulses have big impacts. Barring oil, all other commodity importers draw their foreign currency directly from the markets. Oil payments are however supported by the RBI, though the companies would still have to draw down on their working capital limits.

Resumption of non-resident inflows and enhanced FII investment limits in debt though reversed the rupee’s fortunes with inflows overwhelming demand. The rupee’s pullback reflected in the non-deliverable forward market (offshore trading in rupees with settlement in dollars) where the dollar was priced at Rs 54.57. But traders said, event risks Europe during the week could still reverse rupee’s ascent.

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