Synopsis- Learn how government burdens future tax payers even as it punishes currrent bond investors. Reading time 4 minutes
High crude oil prices, rising commodity prices, excess liquidity and high fiscal deficit are all inflationary in nature and this will impact the yields on long bonds negatively. The supply of long bonds is heavy and RBI is trying to keep down long bond yields from rising too fast through OMO purchases of long bonds. However, yields cannot be supressed for long unless the supply of long bonds ease, which will not happen in the near future.
The government is always looking to elongate the maturity profile of its borrowing to pass the debt servicing burden to future tax payers and future governments. The government borrowing program is largely weighted towards issuance of longer tenor bonds.
When, past long term bonds issued by past governments come up for maturity, the current government has to bear the burden of repaying the matured bonds. The government is running high fiscal deficit and does not have funds to repay matured bonds. Hence it borrows more to repay matured bonds and more borrowing makes it difficult for bond market to absorb the supply.
The government, in order to ease the stress of repayment of debt, conducts an operation switch where it buys bonds coming up for maturity in 1 to 2 years and sells bonds that have long maturity. This increases supply of long bonds to the market, which over and above the regular government borrowing adds to bond supply.
OMO and Switches
Open Market Operation(OMO)- OMOs are the market operations conducted by the RBI by way of sale/ purchase of G-Secs to/ from the market, primarily to regulate the systemic liquidity conditions. When the RBI feels that there is excess liquidity in the market, it sells securities to suck out the excess liquidity. Similarly, when the liquidity conditions are tight, RBI buys securities from the market, thereby infusing liquidity into the market.
Operation Twist-It is a special OMO where RBI conducts simultaneous sell and purchase of gilt securities. Generally, central bank buys long tenure g-secs and sells shorter tenure g-secs. The primary objective of Operation Twist is to keep longer term yield at a lower level.
OMO Data (Rs billion) | FY21(as of 05th Mar) |
OMO Purchases (including Operation Twist) | 2421.32 |
OMO Sale through operation twist | 1950.00 |
SDL Purchase | 300.00 |
Conversion (Switch) of Government of India Securities-RBI conducts the auction for conversion of Government of India securities on third Monday of every month. During auction for conversion, market participants agree to sell the source securities to the Government of India (GoI) and simultaneously agree to buy the destination security from the GoI at their respective quoted prices. The source securities along with notified amount and corresponding destination securities are provided in the press release issued before the auction.
| FY21(as of Jan 2021) |
Conversion of Government securities (Rs billion) | 1128.05 |
Government bonds, SDL and OIS yield movements.
During the week, 5.85% 2030 yield remained unchanged at 6.23%. 5.77% 2030 yield increased by 2 bps to 6.34%. 5-year benchmark bond, 5.22% 2025 yield increased by 5 bps to 5.71%. 6.57% 2033 yield rose by 9 bps 6.66%. Long term paper 7.16% 2050 yield gained 8 bps to 6.95%.
The spread of 10-year bond over 5-year bond (5.22% 2025) came down to 52 bps from 57 bps in previous week. The 15-year benchmark over 10-year benchmark spread rose marginally to 43 bps from 42 bps while 30-year benchmark over 10-year benchmark spread declined slightly to 66 bps from 67 bps.
In the SDL auction conducted last week, average 10-year SDL yield stood steady at 7.20% from previous week. The spread with G-sec benchmark came down to 99 bps from 104 bps.
On weekly basis, 1-year OIS yield rose by 5 bps to 3.97% while 5-year OIS yield rose by 4 bps to 5.38%.
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