Government bond yields are set to rise in the near term in reaction to any interest rate hike by the Reserve Bank of India. |
"The market is gearing to the fact that any hike that happens now could be a last one," said Vikas Goel, executive director - treasury and money markets at Calyon Bank. "The reverse repo could be hiked to 6.25 per cent and then policy rates are expected to remain stable for a year or so after that." |
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Such comfort to the market has come from the fact that RBI has already hiked rates four times this calendar year and thrice this financial year. |
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"We expect an interest rate hike before end-December and another one in the January review, taking the reverse repo to 6.50 per cent," said Shuchita Mehta, economist - south Asia, Standard Chartered Bank. "After that, we see interest rates on hold for a long time." |
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RBI's repo rate hike in the mid-term review of the policy on October 31 did not lead to any sharp fall in government bonds, even though the central bank hinted at persisting inflationary pressure and indicated that credit and monetary aggregates could be higher than estimates. |
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"The repo hike was not an interest rate signal, but only to urge banks to rebalance their loan portfolios," said Goel. |
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"Any hike in interest rates will have an impact on gilts, but it may not be a prolonged impact," said A Prasanna, fixed income analyst at ICICI Securities. |
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As long as banks continue to buy gilts for meeting statutory liquidity ratio requirements, the rally will sustain, economists and treasurers said. |
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"There has been a steady demand for SLR needs and there is no supply of papers in the long-end," said Prasanna. |
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In the mid-term policy review, RBI had said the SLR portfolio of banks had declined to 29.8 per cent of net demand and time liabilities in October from 34.7 per cent a year ago. |
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Banks maintain SLR by investing in gilts and other approved securities. |
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"There have been a series of comments from RBI and finance ministry officials expressing comfort on inflation. That has resulted in the rally in the long-end," Goel said. "The front-end has not moved because of liquidity issues, leading to the curve flattening." |
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Thursday, RBI Deputy Governor Rakesh Mohan told reporters in Indonesia there were no signs of overheating. He also said there were no major inflationary pressure as of now. |
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Global factors such as the steady drop in crude oil prices to a year's low Thursday and softening of US treasury yields following some disappointing economic data had led to views of steady-to-lower interest rates there. |
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"Local markets have been more influenced by the move in US treasuries and crude prices," said Ashish Agarwal, local markets strategist at DSP Merrill Lynch, in a weekly note on fixed income markets. |
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"Both these factors have been a positive influence on bonds." |
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Intermittently, gilts are likely to be affected by domestic factors such as the government's borrowing and any spike in inflation numbers. |
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Standard Chartered Bank's Mehta expects the 10-year yield to rise to 8.05 per cent by December-end as "we see inflation going higher, more rate hikes are seen." |
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"The gilt rally is short-term, as these are irrational responses to global factors," said Rupa Rege Nitsure, economist at Bank of Baroda. |
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"There is domestic inflation pressure, 42 per cent of the government borrowing is still left and certainly an upward pressure on interest rates." |
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Nitsure expects RBI to hike the reverse repo rate to 6.25 per cent in January. |
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The yield on the 10-year benchmark 2016 bond had dropped to a six-month intra-day low of 7.49 per cent Wednesday. Currently, it is at 7.53 per cent. |
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"It will be difficult for 7.50 per cent to break," said Goel. In the medium-term, though, positive factors like interest rates peaking are likely to outweigh the negative factors and help gilts stabilise. |
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