RBI’s auction of Rs 100 billion of government bonds through OMO saw demand for Rs 600 billion. The bid to cover ratio of 6x indicate that the market’s appetite for bonds is high given high liquidity and rate cut expectations. The government bond auction of Rs 180 billion last week saw a bid to cover ratio of 4x, which is significant given that the market is flooded with bond supply through OMO’s and issue of MSS and CMB’s.
RBI has announced an OMO auction of Rs 100 billion this week and markets will lap up the auction given search for yields in a high liquidity environment. Markets will also watch the IIP and CPI data to be released this week for gauging the extent of rate cut by the RBI in its August policy review. Weak IIP and low inflation data will see the markets play for a 50bps rate cut.
The rise in US treasury yields will not dampen demand for government bonds. 10 year UST yields have risen by close to 30bps from lows seen last month on the back of Fed rate hike expectations and on the back of ECB talking of withdrawal of stimulus. US economy created 222,000 jobs in June against expectations of 179,000 job additions. Unemployment rate held at 4.4% while wage growth was muted. Job gains were the highest since February 2017. The healthy pace of hiring is not resulting in wage gains as the Fed expects but it is optimistic on wage gains. Fed will raise rates even as markets see lack of inflation. This will flatten the UST yield curve and that will keep spreads between 10 year UST and 10 year government bonds at levels of around 400bps.
Corporate bond yields fell last week lowering credit spreads as government bond yields rose. The search for yields is driving down corporate bond yields faster than government bond yields as supply of governments bonds is high through OMO’s, government bond auctions, MSS & CMB auctions and SDL auctions.
10 year benchmark AAA bond yields closed lower by 2bps at 7.43% levels with spreads down by 4bps at 79bps levels against the new 10 year benchmark gsec, the 6.79% 2027 gsec. 3 year and 5 year AAA spreads were lower by 8bps and 11bps at 58bps and 46bps respectively. Benchmark 3 year AAA corporate bond yields closed lower by 5bps at 7.23% levels. 5 year benchmark AAA bond yields also closed lower by 5bps at 7.23%. Credit spreads are likely to come off further on liquidity and rate cut expectations.
Government bond yields rose last week on the back of OMO sale auction. The new benchmark 10 year bond, the 6.79% 2027 bond saw yields close up 2bps week on week at levels of 6.53%. The old 10 year benchmark bond, the 6.97% 2026 bond, saw yields close up by 4bps at 6.67% levels while the on the run bond, the 6.79% 2029 bond saw yields rise by 5bps to close at 6.83%. The long bond, the 7.06% 2046 bond saw yields close flat at levels of 7.12%. Gsec yields will take direction from IIP and CPI data.
OIS market saw one year yield close flat and five year OIS yield rise by 3bps last week. One year OIS yield closed at 6.25% while five year OIS yield closed at 6.32%. OIS yields will move on the back of IIP and CPI data.
System liquidity as measured by bids for Repo, Reverse Repo, Term Repo and Term Reverse Repo in the LAF (Liquidity Adjustment Facility) auctions of the RBI and drawdown from Standing Facilities (MSF or Marginal Standing Facility and Export Credit Refinance) and MSS bond issuance was in surplus of Rs 5424 billion as of 7th July 2017. The surplus was Rs 4467 billion in the week previous to last. Liquidity rose on government spending.