10-yr yield seen between 5.20-5.25%

OUTLOOK/MONEY MARKETS

Liquidity seems to be no longer a key factor for the bond market. Despite being in abundance last week, the markets crumbled on the news of the Bank of England rate hikes and higher inflation.

Therefore, the basic trigger will be the direction on long-term rates or the lack of it.

Till now, indications are that there could be a possible rise in rates, which, dealers say, will take some time to take place in India.

Repo as a liquidity management instrument has come in handy for the Reserve Bank of India (RBI), and its subscription seems to be signalling an abundance of liquidity in the system.

According to dealers, with no buying demand coming in, the repo rate seems to be most attractive rate for parking funds.

While there is an inflow of Rs 1,915 crore this week, there are no outflows except for Rs 500 crore towards treasury bill auction.

Dealers also said that the surplus liquidity in the system has not been a result of the sterlisation activity of the RBI to keep the rupee under reins.

This time, they say, it is the lack of monetary operations from the RBI through long-term instruments.

However during the year. liquidity is likely to be under pressure in the medium term, as foreign exchange inflows which contributed to the surplus last year tend to get less concentrated in India as rates have firmed up elsewhere also.

Moreover, with good economic data, growth is expected to be high and this will be reflected in high credit growth.

Soft call money rates to continue

Interbank call money rates are expected to continue their easy run as there is a liquidity overhang in the system.

And forex inflows are expected to pick up following the liberalisation of foreign exchange norms last week, when the RBI and the government relaxed remittance norms and receipts towards import bills and documentation.

Structurally, call rate is ceasing to be the only tool for managing day to day liquidity in the system with the entire market is tilting towards repos.

Call rates are expected to rule a bit firm towards the end of this week owing to reserve requirement for reporting Friday.

T-bill auction cut-off will be competitive

There is one treasury bill auction slated for this week of Rs 500 crore towards 91-day paper. The cut-off rate is expected to be extremely competitive going by the market yield of the bills.

Last week, the RBI announced a higher cut-off rate of 4.32 per cent for the 91-day bill, which was lower than the market rate of 91-day bill at 4.35 per cent.

Interestingly, the short-term yields as indicated by treasury bill rates have slipped below the repo rate of 4.5 per cent.

This was one of the reasons cited that led the RBI to announce higher cut-off at the earlier auctions.

However, in the current circumstances, the higher cur-off in the bills has led to foreign institutional investors, mutual funds and banks to trade in the bills.

In fact treasury bills have emerged as one of the attractive options from the arbitrage point of view with the one-year forward premium on the dollar ruling below one per cent.

Dealers seem to be quite enthusiastic of trading in treasury bills as they feel there is still enough scope of interest rate fall in the short end of the maturity scale "" especially at a time when the scope of further decline in the long-term yields look capped.

Apart from the trigger of liquidity, there seems to be less incentive for the players to buy gilts and build positions in the longer term.