The largest ever SDL auction on record is scheduled for the 25th of October 2016 even as RBI and government add liquidity into the system through bond purchases. States are scheduled to auction SDL’s for a total of Rs 201 billion this week and together with scheduled government bond auction for Rs 150 billion, will strain the system given the huge bond supply. Markets will closely watch for cut offs in the SDL auctions and any negative surprises will push up government bond yields. Higher cut offs in terms of yields on SDL auctions would mean that markets are being stressed on supply.
RBI has announced an OMO bond purchase auction for Rs 100 billion on the 25th of October while the government has announced a bond repurchase auction for Rs 200 billion on the 24th of October. The government is running cash surplus and is buying back bonds maturing in 2017 to lower stress on borrowing next fiscal year, as these bonds would be extinguished before maturity.
RBI and government bond purchases would help improve liquidity in the system that has come into deficit from surplus levels of Rs 450 billion seen on the 7th of October.
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) was in deficit of Rs 427 billion as of 21st October. The deficit was Rs 146 billion in the week previous to last. Government surplus was Rs 242 billion last week, unchanged week on week.
Currency in circulation has risen by Rs 500 billion over the last one month leading to strain on system liquidity. Maturity of RBI forward sale contracts on account of FCNR B redemptions have also impacted liquidity.
Government bond yields closed flat to higher last week on supply worries. The 6.97% 2026 bond saw yields close up by 1bps week on week at levels of 6.76%. The old benchmark ten year bond, the 7.59% 2026 bond saw yields close flat at 6.85% levels while the 7.88% 2030 bond saw yields closing flat at 7.02% levels. The 8.13% 2045 bond saw yields rising by 1bps to close at 7.18% levels. Bond yields are likely to be pressured this week on supply worries.
OIS market saw one year OIS yields close down by 2bps and five year OIS yields close down by 3bps week on week. One year OIS yield closed at 6.34% while five year OIS yield closed at 6.32%. OIS yield curve will steepen in the coming weeks.
Corporate bond yields rose last week on the back of worries on liquidity and SDL and government bond supply. Three-year benchmark AAA corporate bond yields rose by 9bps week on week to close at 7.27% levels. Credit spreads rose by 11 bps to close at 59bps levels. Five-year benchmark AAA bond yields rose by 1bps to close at 7.31% with spreads rising 2bps at 48bps levels. Ten-year benchmark AAA bond yields rose by 2bps to close at 7.48% levels with spreads up by 1bps at 61bps. Corporate bond yields will stay ranged at current levels till liquidity and bond supply eases.