Dr. Urjit Patel is appointed RBI Governor and bond yields will rise in the short term.
The common statement amongst bond market participants is that if Dr. Urjit Patel is appointed as RBI governor in place of Dr. Rajan, bond yields will shoot up. The reason is really frivolous; Dr. Urjit Patel is expected to follow Dr. Rajan’s policy of staying highly cautious on rates given that inflation is still a threat to the economy .
Dr. Urjit Patel, was appointed as deputy governor in January 2013 and his term was extended for another three years this year. He headed the key committees on RBI policy of inflation targeting and the committee on liquidity management. Both the proposals have been implemented and are currently running smoothly.
Dr. Urjit Patel is the ideal choice of replacing Dr. Rajan as the RBI governor as the measures taken by the RBI over the last three years will continue seamlessly under his stewardship. Global rating agencies and global investors will appreciate Dr. Urjit Patel as they will see the government embracing the good work of Dr. Rajan.
Bond markets, in the short term, may see chances of rate cuts dim if Dr. Urjit Patel is appointed as governor as inflation at over 6% levels for July 2016 is above RBI’s target of 4%+/- 2%. RBI also sees upside threat to its March 2017 forecast of 5% given higher food prices and a narrowing of the output gap. Bond yields may rise from lows as markets take profit. However in the longer term, the market will stay positive on the fact that RBI will take right decisions on managing inflation expectations.
Bond market took profits at lower levels of yields last week at the longer end of the curve. The benchmark ten year bond, the 7.59% 2026 bond saw yields staying flat week on week to close at 7.10% levels while the 7.88% 2030 bond saw yields rising by 2bps to close at 7.16% levels. The 8.13% 2045 bond saw yields rising by 4bps to close at 8.27% levels. Bond markets will await the announcement of the new RBI governor for fresh direction .
Credit spreads rose last week on profit taking from lows. Three, five and ten year benchmark AAA credit spreads rose by 13bps, 9bps and 17bps respectively last week to close at levels of 53bps, 44bps and 47bps. NBFC bonds spreads were mixed last week with benchmark three year spreads closing flat at 88bps while five and ten year spreads closed up by 1bps and 10bps respectively to close at levels of 74bps and 80 bps. Credit spreads will look to trend down on market search for yields.
OIS market saw one year OIS yields close up by 1bps and five year OIS yields close down by 1bps week on week. One year OIS yield closed at 6.55% while five year OIS yield closed at 6.50%. OIS yields will stay around 6.50% levels, as near term rate cut expectations are muted post inflation numbers.
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 surplus of Rs 553 billion as of 19th of August. The surplus was Rs 70 billion in the week previous to last. Government surplus was Rs 73 billion last week. Liquidity eased on bond maturity payout of Rs 380 billion. Liquidity will stay easy until advance tax outflows in mid September.