Liquidity concern casts a shadow

WEEKLY MONEY & CURRENCIES

Liquidity: External, internal issues fuelling concern

Liquidity is gradually becoming a concern among the money market players due to external as well as internal factors. Following the meltdown in the global markets, dealers prefer to remain liquid on dollars. There has been pressure on foreign banks to buy dollars from the market. Inflows into the equity market, which used to be the usual source of liquidity, looks uncertain at this point of time. "As the RBI used to sterilise liquidity, the dollar flow was a source of comfort for the market," said a dealer.

The government is slated to receive around Rs 45,000 crore from the RBI through dividends, part of it will be required to pay off the advances under the ways and means overdraft facility. The government has borrowed around Rs 11,444 crore from the RBI, thus taking the total balance under the ways and means advances facility to Rs 31,643 crore as on August 3.

Even if the government spends, the RBI has raised the ceiling on the markets stabilisation bonds from Rs 1,10,000 crore to Rs 1,50,000 crore to suck out excess liquidity.

This week will witness an inflow of around Rs 414 crore as against an estimated outflow of Rs 11,300 crore.

Call: May rise on liquidity concerns

Interbank call money rates, the interest rate charged by a bank to another for lending short-term funds, is likely to inch up with apprehensions on liquidity. The bids under reverse repo of the RBI was likely to come down further, said dealers. If the rupee depreciates further this week, it will add to the liquidity concern and push up call rates. Till the full outcome of the subprime market crisis in the global economy unfolds, banks will be cautious on lending surplus liquidity.

Indian banks will rather lend to their foreign counterpart who are maintaining comfortable liquidity or park in overnight market overseas rather than submitting it under reverse repo of the RBI.

Treasury bills: Cut-off yield may rise

The RBI will be auctioning 91-day and 364-day treasury bills for Rs 2,000 crore each, respectively. The cut-off yield on these papers may inch up a bit since the market is expecting a lot of supply of papers in this segment. This is because the RBI has increased the ceiling of MSS from Rs 1,10,000 crore to Rs 1,50,000 crore. Moreover, the restrictions on external commercial borrowings and concern on the rupee liquidity have already resulted in yields in the short term moving much steeper than the long term.

Since the market is volatile, both FIIs and Indian banks will be actively buying treasury bills since they are sovereign papers. So, brisk trading is expected to push the yields down in the secondary market.

G-sec: Positive triggers abound

The government securities market is expected to remain cautious this week due to liquidity concern. However, there is another set of view that there might be brisk trading in government papers as these are perceived to be safe havens for investment during the turmoil in the equity markets or riskier assets. Therefore, foreign institutional investors and other foreign players who do not want to exit Indian markets but prefer to stay away from equities may invest in the government papers thought their banks.

Inflation remains stable around 4.45 per cent and crude prices have fallen below $71 per barrel. The market does not expect the government to bring down SLR since the MSS ceiling has been raised and so will be the supply of papers. These are expected to act as positive triggers for the market.

In this backdrop, the yield on the ten-year paper is expected to rule in the 7.90-8.05 per cent range.

Corporate bonds: May remain sluggish

The corporate bond market may remain sluggish with the inching up of interest rates on the shorter end of the yield curve. Most of the issuers will prefer to wait till the market condition stabilises.

However, some of the foreign banks may raise through certificate of deposits even offering higher rates of interest to stay liquid. Tracking treasury bills, yield on certificate of deposits and commercial papers may firm up to 8.75-8.90 per cent as against 8.25-8.50 per cent seen last week.

Recap: The spread between the 10- year government security and triple A corporate bond of similar maturity has widened to 150 basis points.

Rupee: FIIs likely pullout puts pressure

The spot rupee is expected to rule with a bias towards depreciation since most of the banks are busy buying dollars to remain liquid on the face of pullout by the FIIs from the equity markets. Even banks are seen swapping the rupee for dollars.

Since the meltdown in the subprime markets is likely to unfold in greater proportion in the coming few weeks, banks are playing safe with liquidity. With the spot rupee likely to depreciate, importers will be covering import requirements. Selling by exporters which was replacing FII inflows as a source of liquidity in the market to certain extent may not happen this week. "Since the outlook for the rupee is to depreciate at least in the near term, exporters will be cancelling their dollar sales and wait for better rates," said a dealer with a PSU bank.

The market may witness intervention by the RBI to infuse dollars so as to prevent sharp depreciation in the rupee dollar exchange rate.

Forward premiums on the other is likely to remain primarily a function of rupee liquidity and importer demand. It is likely to firm up.

In this backdrop, the spot rupee is expected to rule in a wide range of 40.45-41 to a dollar .

Recap: The spot rupee depreciated for most of the week following foreign exchange outflows. The outflow by the foreign institutional investors was part of profit taking from the equity market which fell along with global equity markets.

Post Script :

The RBI restricted use of ECB above $20 million for the rupee expenditure as capital control measure.