The debt market sentiment improved somewhat last week with government bond yields easing a tad and money market rates retracing significantly after spiking past 10% mid-week. In the early part of the week, on escalating tension over Ukraine, US 10-year eased to 2.60% on safe haven buying while Brent crude climbed to $111.20 a barrel accompanied by turmoil in global equity markets. The global risk off sentiments also weighed on local bonds and rupee with benchmark 10-year government bond once again retracing back to a near two-month high of 8.90% and rupee trading past 62 mark. Short term three month money market rates also spiked to 10.25%. However, easing of tension in Ukraine and strong employment data in the US led to recovery in global equity markets, the dollar weakening to recent lows of 1.3875 to the euro, crude oil prices retracing back to $109 a barrel and US 10-year yields spiking back to week’s high of 2.79%.
The positive surprise on the current account deficit narrowing sharply to $4.2 billion (0.9% of GDP) in Q3 FY14 from $31.9 billion in Q3 FY13 and also lower than $5.2 billion in Q2 FY14 led to strong recovery in rupee to a two-month high of 60.94 versus the dollar before settling at 61.09 from 61.76 previous week. The government bond also pared its losses easing to 8.78% before ending at 8.81%, down 5 bps for the week. Five year AAA yields rose 2 bps from 9.78% to 9.80%, while 10 year AAA bonds ended 8bps higher at 9.76% from 9.68% amidst dull volumes.
The liquidity situation remained comfortable as overnight collaterallised lending and borrowing obligation rates remained lower than benchmark repo rate for most part of the week. The borrowings from liquidity adjustment facility window remained largely unchanged at Rs 26,770 crore. The marginal standing facility borrowings were also negligible at Rs 130 crore. RBI continued with renewal of 14 day term repo for Rs 39,000 crore wherein weighted average cut off rate stood at 8.24%. The shorter end bank certificates of deposit rates which had spiked to 10.25% earlier in the week saw a sharp downside on heavy demand from mutual funds. The three month PSU bank CD rates fell 9bps from 9.80% to 9.71%, while one year PSU bank CD rates dropped 8bps from 9.77% to 9.69%.
This week is the typical data heavy week with the release of CPI/WPI inflation and trade balance where widespread expectations for further improvement in headline prints. Analysts will keenly watch for trend in core inflation numbers. A sharp spike in US 10 year to 2.79% on Friday and comments from finance minister that the government would consider authorising RBI to target inflation will weigh heavily on sentiments ahead of the key Fed meeting the week after. Mutual funds would also be focused on money markets ahead of advance tax outflows. As such, the outlook for bonds remains circumspect with possibility of yields nudging higher by 10bps next week. Any rally on lower headline print of inflation will most likely be used for profit booking by investors. Money market rates seem to have peaked for current quarter and strong demand is expected from mutual funds to push the rates down from here for rest of the month.
Mahendra Jajoo is executive director & CIO - fixed income at Pramerica Asset Managers
