Government bond yields slumped to a seven-week low on Thursday due to optimism regarding the inclusion of bonds in the international indices, dealers said.
The yield on the benchmark 10-year bond fell by 7 basis points to settle at 7.13 per cent, against 7.20 per cent on Wednesday.
"Yields in the government bond market fell by 6 to 7 basis points on expectations of inclusion of our bonds in JP Morgan emerging market bond index. Robust collections of small savings schemes added fuel to the fire on expectations that the government of India can cut second-half borrowings if collections in small savings continue to be robust," Anshul Chandak, head treasury at RBL Bank, said.
Traders rushed to buy bonds in early trade after reports that the chances of bond inclusion in JP Morgan's emerging market index have become high after Russia's exit.
"The market sentiment is positive because there are chances that bond inclusion might happen this time," a dealer at a private bank said. "There was resistance around 7.15 per cent (yield on 10-year bond) as nationalised banks were selling at those levels to book profit," he added.
Further, mutual funds bought heavily, which broke the psychologically crucial 7.15 per cent yield on the benchmark 10-year bond that prompted traders to stock up.
"In the morning, there was buying because of the report on bond inclusion, then there was buying from the mutual funds side, which broke the 7.15 level (yield on the 10-year bond)," a dealer at a state-owned bank said.
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Dealers believe that the yield on the benchmark 10-year bond should not fall below 7.10 per cent as domestic inflation still remains above the Reserve Bank of India's target band, and the US inflation for August was higher than the market expectations.
"The inflation was lower than what the market expected, but still above the target, and US inflation is also high. So, there won't be much rally after this," a dealer at another state-owned bank said. "The yield (on the 10-year bond) should not fall below 7.12-7.10 per cent level," he added.
Meanwhile, traders received fixed rates in the overnight indexed swap market, tracking a fall in US Treasury yields and government bond yields, dealers said.
The five-year swap rate fell by 9 basis points to settle at 6.67 per cent, against 6.76 per cent on Wednesday.
However, the one-year swap rate remained steady as the domestic rate view remains unchanged, dealers said. It settled at 7.04 per cent, against 7.07 per cent on Wednesday.
"There was receiving (fixed rates in 5-year swap rate) in the morning, tracking US yields, and then there was a rally in the gilts (government bond) market, prompting more receiving in the segment," a dealer at a primary dealership said.
Inclusion of Indian government securities in major bond indexes could attract strong capital inflow into debt. The demand for the bonds will increase leading to a rise in the liquidity of the bonds, which in turn will lower the overall risk. The cost of borrowing for the government and other private entities might become lower due to passive inflow. However, associated risks include volatility in the value of currency, and outflows during the times of negative sentiment.
Inclusion of Indian government securities in major bond indexes could attract strong capital inflow into debt. The demand for the bonds will increase leading to a rise in the liquidity of the bonds, which in turn will lower the overall risk. The cost of borrowing for the government and other private entities might become lower due to passive inflow. However, associated risks include volatility in the value of currency, and outflows during the times of negative sentiment.