Bond markets to trade in a tight band this week: Jajoo

Sentiment in the bond market stabilised with the onset of the new year as benchmark 10-year yields eased 12 basis points last week to 8.84% on strong buying from mutual funds, foreign banks, insurance companies and pension funds. The 10-year government bond yield in the previous week had spiked to near yearly high of 8.96% on apprehensions of announcement of a bond switch and the revised monetary policy framework documents, neither of which actually got announced. Liquidity also improved after the seasonal quarter-end tight money environment eased with fresh flows in pension funds on interest payments. However, much of the move happened in pre-emptive buying in the first two days of the week till December 31 by which time the 10-year bond had already hit the weekly best of 8.80%. Thereafter, the market broadly traded in a narrow range of 8.82-8.84% after the initial demand got filled. With large auction supplies in coming months, the fiscal deficit for the first eight months already at 94% of yearly target, the rupee indicating some weakness following strength in the US dollar in global markets and some correction in equity markets, the market went back to a wait and watch zone, though good buying interest was seen at lower levels. The dollar gained ground globally with euro/$ pair trading below 1.36 while the Dollar Index rose to a one month high at 80.79. The rupee made a low of 62.56 before it recovered to 62.16 on suspected intervention by state-run banks, compared to 61.84 last week. After hitting the weekly worst of 8.88%, better than expected response in govt bond auction helped the 10-year to close at 8.84%. The 10-year AAA corporate bond yields fell 5 bps from 9.70% to 9.65%, while five-year AAA eased 8 bps from 9.74% to 9.66%.

Liquidity tightness eased with an inflow from special deposit schemes and government subsidy payments as marginal standing facility balances declined to a meagre Rs 385 crore form Rs 26,670 crore, while liquidity adjustment facility borrowings reduced to Rs 20,200 crore from Rs 39,650 crore. Overnight Mibor rates eased from 8.71% to 7.76%. Three month bank certificates of deposit rates actually hardened 10 bps to 8.78% from 8.68% as the new maturities will now cross the fiscal year-end of March. But, otherwise yields on near three month CD maturing till March 31 fell sharply by 25-30 bps with ease in overnight rates. One-year CD rates fell 2 bps from 9.28% to 9.26%.
 
Markets are expected to trade in a tight band this week as well and await crucial data points on trade deficit and inflation later this week. A break out on either side is unlikely as the positives of a pause by RBI, improved liquidity and a tame start to Fed tapering is neutralised by fresh supplies and uncertainty on outcome of bond switch and monetary policy framework document. For the moment, it remains a buy on dips market for quick profit booking. With near term money market rates already hugging repo rate, far end of the curve should outperform this week. A positive outcome on inflation or bond switch can push the yields lower from the currently attractive levels though.
 
The author is executive director & CIO - fixed income at Pramerica Asset Managers