US Non Farm Payroll numbers printed at 321,000 jobs added in the month of November 2014 with the unemployment rate at 5.8%, unchanged from October levels. October 2014 job additions were revised upwards to 243,000 from 214,000. The market expected job additions of 243,000 and the 321,000 job additions was far above expectations and the most since January 2012. More importantly average hourly wages rose 0.4% in November, the most since June 2013.
The strong US job market that has seen jobs of more than 2 million added in this calendar year has led the Fed to stop its asset purchase program. However the Fed has guided towards rate hikes starting in the second half of 2015 but if job growth stays strong and wages rise, the Fed might start raising rates earlier than expected.
Fed rate hikes in the early to mid part of next year could lead to volatility in financial markets and if that places pressure on the INR, RBI could defer rate cuts leading to volatility in bond yields.
Bond market is taking whatever the RBI and the Government is offering. RBI OMO (Open Market Operations) sale auction for Rs 120 billion saw bids for more than double the auction size and cut offs were at market levels for the relatively illiquid bonds that were auctioned.
The government bond auction on the 5th of December saw bids at three times the auction size of Rs 140 billion. Cuts offs were aggressive at 7.94% on the 8.15% 2026 bond, which is at par with the 8.40% 2024 ten year benchmark bond. The 8.24% 2033 bond saw the cut off coming in at 8.01% levels. The yield on both the bonds are down by around 16bps week on week respectively.
The long bonds, which are the 8.30% 2042 bond, 9.23% 2043 bond and the new 8.17% 2044 bond are trading at levels of 8%, 8.03% and 7.97% respectively. The whole On the Run Yield Curve is in a 7.94% to 8.03% range indicating the extreme flatness of the curve.
The bond market is positioning aggressively in anticipation of rate cuts by the RBI post the dovish policy review on the 2nd of December 2014.
OIS (Overnight Index Swaps) market saw the curve rising week on week with one year OIS yields rising by 9bps and five year OIS yields rising by 5bps to close at levels of 7.82% and 7.15% respectively. OIS market took profits at lower levels of yields post RBI policy review. OIS yields could spike on the back of strong US job numbers.
System liquidity eased last week on government spending. 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 489 billion from Rs 689 billion seen in the week previous to last. Liquidity eased despite RBI OMO sales of Rs 120 billion. Liquidity is likely to stay easy in the system on government spending.