The fluid macro economic environment coupled with 30th July RBI policy review will keep bond markets nervous for the next couple of weeks. The ten year benchmark bond, the 7.16% 2023 bond is trading at levels of 7.53% and is likely to trade in a 7.45% to 7.58% range over the next couple of weeks. The market does not know where to turn at present leading to range trading.
The INR is where all eyes are focused on at present. The currency touched all time lows of Rs 61.21 in intraday trading last week before climbing to close the week at Rs 59.62 levels. The release of US Federal Reserve (Fed) meeting minutes helped the INR as the Fed chairman was in favor of continued monetary support to the US economy.
The RBI stepped in to stem the INR fall by USD sales and by curbing speculation. The government is trying to get foreign investments into the country and is also looking at floating a USD bond issue.
The INR fluctuations will keep bond markets nervous. Bond markets will also worry about rate hikes by the Indonesian Central Bank that raised rates by more than expected 50bps on Friday the 12th of June. The Indonesian Central Bank has raised rates by a total of 75bps over the last two months on the back of rising inflation expectations and on the back of a volatile currency that has lost over 6% against the USD over the last one year. Rate hikes by any central bank at a time of weak market sentiments is negative for markets.
IIP (Index of Industrial Production) growth was a negative 1.6% in May against market expectations of 1.6% growth. CPI for June came in at 9.87% against levels of 9.31% seen in May. WPI inflation is expected to come in at over 5% for June against levels of 4.70% seen in May. The CPI was largely driven by higher food prices that rose 11.84% in June against levels of 10.65% seen in May.
The weakening economy is unlikely to drive RBI to cut rates in its 30th July policy review. However markets will start to expect rate cuts post July policy, as good monsoons will drive down food prices going forward.
Corporate bond yields rose week on week with five and ten year benchmark AAA corporate bond yields rising by 13bps and 15bps respectively. Five and ten year AAA credit spreads rose by 13bps each to close at levels of 79bps and 106bps respectively. Corporate bond yields rose on the back of worries on INR weakness.
OIS (Overnight Index Swaps) markets saw one year OIS yields rise by 5bps while five year OIS yields stayed flat week on week. The swap market has taken out all rate cut bets from the swap curve. OIS yields are likely to stay ranged until the RBI policy on 30th of July.
Liquidity tightened last week as banks demand for funds increased in the reporting week. RBI intervention in the currency markets to prevent an INR slide also affected liquidity negatively. Liquidity as measured by bids for the LAF (Liquidity Adjustment Facility) auction of the RBI saw bids for repo averaging Rs 52,000 crores on a daily basis against an average of Rs 28,000 crores seen in the week previous to last. Liquidity is likely to stay at deficit levels of around Rs 50,000 crores given RBI USD sales.