Debt markets await cues from interim Budget: Jajoo

Yields across bond and money market instruments inched up this week notwithstanding moderate economic data, signifying underlying unease due to a further pick-up in core inflation indicators in India, indications from Fed about continued tapering and persistent tightness in system liquidity. While the employment data in the US was below consensus, unemployment rates hit the lowest since October 2008 of 6.6%. While the Fed chairperson at a testimony to a Congress committee once again affirmed keeping interest low for foreseeable future, she also made it amply clear that the tapering remains well on course for now. In local markets, while headline CPI for January fell sharply to a fresh two-year low of 8.79%, core CPI inched up yet again to 8.11% vs 8.05% in spite of further fall in vegetable prices. Similarly while headline WPI fell more than consensus to an eight-month low of 5.05%, core manufacturing inflation picked up pace at 3% vs 2.76% last month. Benchmark 10 year government bond hardened 8 bps to 8.82% this week. In forex markets globally the US dollar remained range bound closing marginally weaker at 1.3693 vs 1.3635 in the previous week.
 
With January trade deficit correcting further to $9.92bn and imports declining for eight consecutive months, bunched up dollar inflows in the system following the 2-day bank strike and lower than expected contraction in December IIP at (-) 0.6%, the rupee strengthened to 61.93 compared 62.29 last week.  After hitting a high of 2.79% intra-week, US 10 year treasury also recovered to 2.74% at close on some bargain hunting in listless trading. The 10 year AAA bonds ended 10 bps higher to 9 68%.from 9.58%, while five year AAA yields rose 14 bps to 9.86% from 9.72%.
 
Liquidity conditions tightened significantly during the week. Overnight rates stayed close to marginal standing facility rate of 9% for most part of the week. MSF borrowings rose to Rs 18,600 crore from a meagre balance of Rs 100 crore in previous week even though RBI conducted two additional terms repos for a cumulative amount of Rs 30,000 crore. LAF borrowings also increased to Rs 40,700 crore from Rs 35,000 crore. Cut-off at last term repo for 28 days was also higher at 8.65%. Three month PSU bank certificate of deposit rates rose 21bps to 9.75% from 9.54%. The one year bank CD rates also rose 14bps to 9.75% from 9.61%.
 

The focus this week will be on vote on account where traders will get further guidance on next year’s borrowing programme and final fiscal deficit for FY14. Traders will also watch for any debt switch proposal which may escalate supplies at the longer end of the curve. While the expectations are for the fiscal deficit target of 4.8% for FY14 to be achieved and the borrowing programme for the next year to be well-calibrated, skepticism will likely prevail given the view that fiscal target will mostly be met by postponing subsidy expenditure to next year and disinvestment target will be met by one-off high interim dividends from PSUs. Consensus is for gross market borrowings between Rs 5.8 lakh crore and Rs 6.25 lakh crore and for fiscal deficit target for FY15 in range of 4.4-4.6%. While any positive surprise in the interim budget may induce a mild rally in bonds, it still remains a sell-on-rally market in view of persistent liquidity tightness and uncertain global environment. Short term rates also may still have some more room to inch up till March.

Mahendra Jajoo is executive director & CIO-fixed Income at Prameica Asset Managers