India kicks off inflation-indexed bond sale; first tranche taken up

MUMBAI (Reuters) - India's first sale of inflation-linked bonds in over a decade was fully sold on Tuesday after attracting good demand, marking a promising start to the government's attempt to wean millions of Indians off gold as a hedge against rising prices.

The Reserve Bank of India sold 10 billion rupees worth of 10-year bonds at a real yield of 1.44 percent over the wholesale price index. The central bank sold the debt on behalf of the government.

A Reuters poll had estimated the cutoff yield at 1.7 percent.

The central bank received 167 bids worth 46.16 billion rupees, with a strong bid-to-cover ratio of over 4.5, which is a gauge of demand.

Dealers said the bulk of the demand likely came from traders and insurance firms, with foreign investors and mutual funds likely having declined to bid.

"The auction went well, looking at the cutoff levels. The size of the issue was small and a few investors may have picked it up. It's, however, too early to comment how this product pans out," said Harish Agarwal, a dealer with First Rand Bank in Mumbai.

He said that the bond was trading at a 0.25-0.30 rupee premium in the secondary market after being sold.

Tuesday's sale marks the first tranche of up to 150 billion rupees of inflation-linked paper which will be offered at monthly intervals during the current fiscal year.

The success of this debt will depend on liquidity and how they compare to government bonds, which have returned an average of around 2.5 percent over a five-year period.

The sale comes at a time when policy makers worry about rising gold imports, a key reason behind the country's current account deficit, which had hit a record high of 6.7 percent of gross domestic product in the December quarter.

India is the world's biggest bullion buyer and the government considering more measures to curb demand for gold after importing around 162 tonnes in May.

Reserve Bank of India governor Duvvuri Subbarao has also said the current account deficit will be a key factor in monetary policy decisions.

India is relaunching the sale of inflation-index bonds after a previous failed attempt in 1997, when the government had only linked the principal to inflation.

The government has indexed both the coupon and interest payments to inflation this time around, making the debt far more appealing. The debt will be indexed to the final WPI with a four-month lag, meaning Tuesday's auction was extrapolated from January's final reading of 7.31 percent.

While the initial sales are targeted at institutions to settle on the right pricing, the government is aiming to sell the inflation-linked bonds to retail investors in the fall. (Reporting by Subhadip Sircar; Editing by Ron Popeski)