Govt may have to borrow more

Oil price hike likely to impact inflation and interest rates

Market sentiment will be driven by oil prices and liquidity; Yield on 7.37% 2014 gilt is likely to rule in the 6.96-7.00% range; The spot rupee is expected to be rangebound in the 43.50/60 band

MONEY MARKETS
Liquidity unlikely to raise concerns

Liquidity will be surplus due to capital inflow and the government credit with the Reserve Bank of India (RBI). Even though interest rates have been rising overseas, the rate differential in India remains lucrative. The other crucial factor is the well-performing equity market which is drawing a lot of portfolio investment.

RBI, on the other hand, has been quite active, intervening in order to keep the rupee-dollar exchange in a band of 43.45-60 against the dollar. This is resulting in an excess liquidity of the local currency which may continue this week as well.

Rising oil prices continue to be a concern for the market. The government may have to borrow more to meet the crude requirement. The proposal to hike domestic oil prices will impact inflation and interest rates.

In the week ahead, the market will witness an outflow of Rs 4,000 crore while inflows are pegged at Rs 77.40 crore.

Soft trend ahead

Given the surplus liquidity, call rates at which banks lend and borrow for daily fund management will remain soft. In fact, the liquidity has prompted the RBI governor to propose multiple liquidity adjustment facilities.

However, the market has become pure interbank market with complete phasing out of the non-banking players. Collaterised lending and borrowing obligation, the call money equivalent product of Clearing Corporation of India, has picked up in volumes due to active participation of these non-banking players, including corporates.

T-bill cut-offs seen lower

There are two sets of treasury bills to be auctioned this week "” both part of the government's borrowing programme and the market stabilisation scheme (MSS). In 91-day treasury bills, Rs 500 crore will be towards the government's borrowing programme, while market stabilisation bonds account for Rs 1,500 crore.

As far as 364-day treasury bills are concerned, the government's borrowing and MSS will account for Rs 1,000 crore each.

The cut-off yields on these auctions are likely to be market-related and thus lower. Dealers said the surplus liquidity and brisk secondary market trading are pushing down the yields in the short term.

Recap: Reverse repo bids amounted to an average of Rs 38,000 crore to Rs 40,000 crore last week. Call rates ruled extremely soft. Inflation fell to 3.84 per cent in the week ended July 30 from 4.07 per cent a week ago, due to cheaper food items and manufactured products although fuel prices went up.

CORPORATE BONDS
No major floats lined up

The primary market may not see any major bond issue this week. Most of the corporates have been opting for external commercial borrowing or foreign currency convertible bonds.

The market might witness short-term bonds ranging from 1 to 2 rates as long-term interest rate outlook has become bit uncertain, explained a bank bond dealer.

The secondary market will witness trades as banks, mutual funds, pension funds and insurance companies are busy buying corporate bonds. While the demand is too high, the supply is constrained. Thus the trade is pushing up the prices of the bonds fast.

Most of the bond holders are holding on for enjoying the yield differential and to maintain a portfolio of top-rated papers in the absence of fresh supply.

Commercial papers will remain an instrument to raise short-term funds. During times of uncertainty, corporates prefer raising funds through commercial papers and then roll it over.

Oil companies continue to be the most active participants in this market. One of the reasons is that most of the oil companies have hit their exposure limit with the banks.

Recap: The spread between the five-year government security and triple-A corporate bond continued to be at 40 basis points.

GOVERONMENT PAPERS
Oil price to affect sentiment

There is a mixed sentiment. Excessive liquidity is a positive trigger for the market but the fear of valuation losses is keeping participants at a bay.

This is because oil prices, which directly impact the domestic inflation, are playing spoilsport. The concern has been heightened with the government deciding for another round of oil price hike to protect the margins of the oil companies.

Therefore, liquidity has become a secondary factor for the market to enjoy a rally and pick up the papers. The secondary market trading is highly skewed and is restricted to only one or two papers. The 10.25 per cent 2021 paper is likely to continue as the most active stock.

Recap: The government raised Rs 8,000 crore by reissue of the 8.07 per cent 2017 paper for Rs 5,000 crore and the 7.50 per cent 2034 paper for Rs 3,000 crore.

While the cut-off yield for the 2017 paper was set at 7.14 per cent as against the market expectation of 7.11 per cent, the 2034 paper was sold at the primary yield of 7.44 per cent.

CURRENCY
Downward bias seen

While foreign exchange inflows continue to push the spot rupee up, the demand from oil companies is forcing a depreciation pressure.

Dealers said if domestic oil prices are raised, demand for dollars from the oil companies will result in a cash dollar shortage that has been continuing since the last week.

Cash dollar shortage started a few weeks back when the RBI bought dollars from the market to protect the spot rupee from depreciating below 43.45 against the dollar following foreign exchange inflows, according to dealers.

If oil prices stay moderate, the cash dollar shortage may, however, recede, said dealers. The rupee may appreciate with the expectation of dollar depreciating owing to the larger-than-expected trade deficit of the Untied States. To this backdrop, the spot rupee is expected to rule in the 43.43-60 range against the dollar with a bias towards depreciation.

Forward premiums

Forward premium are likely to remain soft as long as the cash-dollar shortage continues. Dealers feel that if oil prices continue to rule high, cash dollar may continue to be in premium to forward. If oil prices mellow, the dollar shortage will recede and may result in forwards coming back to premium.

However, if the spot dollars depreciate due to the cash dollar shortage and importers' demand, primarily from oil importers, then exporters may start selling dollars. This will further ease the pressure on the forward dollars

Recap: The foreign exchange market witnessed huge cash dollar shortage due to the mopping up of excess dollar by the RBI to prevent fast appreciation of the spot rupee.

Cash dollar ruled at a premium to forward dollars the entire week. Demand from oil companies added to the need for dollars.