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RBI to the rescue with likely $15 billion bond-purchase to cap yields

Subhadip Sircar and Kartik Goyal | Bloomberg/ 17 May 18 | 09:56 AM

Illustration by Ajay Mohanty

Embattled investors in India’s government bond market are hoping to see the light at the end of the tunnel as the central bank comes to their rescue.

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Benchmark yields have likely peaked for 2018 after hitting a three-year high this week, and the Reserve Bank of India’s debt purchases will keep a lid on them even as higher inflation boosts the odds of monetary tightening, according to a survey of traders and fund managers.


The RBI is likely to buy 1 trillion rupees ($15 billion) of securities in the current fiscal year, the survey showed, as authorities seek to cool yields and ensure a smooth passage for the government’s borrowing program. The first tranche is due Thursday.


“At current levels, two rate hikes are already in the price and I don’t see yields surging much," said Badrish Kulhalli, head of fixed income at HDFC Standard Life Insurance Co. in Mumbai. The purchases would help cap yields and provide an exit to state-owned banks -- the biggest holders of sovereign debt -- and others with stuck positions, he said.


The benchmark 10-year yield is likely to be at about 7.83 percent by year-end, and edge higher to 7.87 percent by March-end, the median estimate of the 10 participants showed. It closed little changed at 7.90 percent Wednesday. The yield curve will probably remain flat, most traders surveyed said. The 5-to-10 year segment is currently inverted.


Hardening yields -- U.S. 10-year Treasury notes reached the highest since 2011 on Tuesday -- have pressured emerging-markets assets. Foreigners have pulled $3.3 billion from Indian bonds this year, adding to the relentless selling by state-owned lenders.


The outflows have contributed to declines in India’s rupee, Asia’s worst performer this year, and rendered ineffective a series of measures taken by authorities to revive bond demand. Benchmark yields climbed 37 basis points in April, the biggest monthly gain in over a year.


Oil Threat


And the price of oil -- India’s top import -- and a weak currency remain key risks for the market. Brent crude touched $78 a barrel this month, and the central bank expects prices averaging around this level to stoke inflation by 30 basis points.


“Yields can cool off only after commodity prices come down as they influence inflationary expectations," said Sandeep Bagla, associate director at Trust Capital Services India Pvt.


The RBI may have more success with the open market operations, if history is any guide, traders say. The last time it bought 1.1 trillion rupees of debt via this route, in the financial year ended March 2017, the benchmark yield dropped to a seven-year low. The purchases would help address a “demand-supply imbalance" that’s led to the prolonged selloff in bonds, Standard Chartered Plc said in a note Wednesday.


Bank of America Merrill Lynch sees the 10-year yield decline to 7 percent by December-end. The lender likens the current situation to 2016, when forex flows dwindled and the RBI injected cash via OMO, setting off a rally.


“Conditions are turning bullish for bonds," said Indranil Sen Gupta, India economist for BofAML. “Even if the RBI doesn’t cut rates in August and we go wrong, there should be a strong rally in bonds as OMO purchases will generate excess demand."

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