For the first time in a span of nearly 14 months, the 10-year bond yield rose to 7.05 per cent on Tuesday. A steady uptick in inflation and rising global crude prices made investors jittery and they fear the Reserve Bank of India (RBI) may shift its stance from neutral to tightening which led to hardening of yield.
The last time the yield was seen at this level was on September 8, 2016. The benchmark government security had ended at 6.97 per cent on Monday. The yield could reach as high as 7.10 per cent, according to IDFC Bank. Bond yields and prices move in opposite directions.
Bond yield has been under pressure after the Reserve Bank of India’s recent announcement of debt sale of nearly Rs 10,000 crore through open market operations.
Ajay Manglunia, executive vice-president and head fixed income advisory at Edelweiss Financial Services, said, “There is a constant uptick in inflation and oil prices which is making investors jittery. They feel the rate easing cycle is over. Investors fear there would be a huge supply of government bonds, as the government may have to borrow more. So, there is lack of investor appetite for government bonds, which has led to hardening of yields.
“Whenever there is a rise in oil prices, foreign investors are able to get a value from their debt investments in countries that export oil such as Malaysia and Indonesia. They exit their investments from countries that import oil such as India. So, they like to own bonds of countries which would be benefiting from a rise in oil prices… FIIs have sold government bonds worth $600 million in the last 10 days,” said Anindya Banerjee, currency analyst at Kotak Securities.
“We don’t expect the yields to rise beyond 7.1-7.15 per cent and could fall to 6.9 per cent in the next 10 days,” he added. Investors fear rising oil prices would widen the government’s budget deficit, forcing it to boost the size of debt sales just when state administrations are borrowing heavily and the central bank is selling debt to suck out excess liquidity from the system.
Several investors, anticipating the bond yield rally to stall near 6.95-6.98 per cent, accumulated long positions and were caught unaware, forcing to cut losses as soon as the 10-year bond yield tested 7 per cent, said a trader with a private bank.
“The rate spread of 100 basis points between the 10-year benchmark bond yield and India’s key lending rate of 6 per cent does not seem sustainable,” said a senior bonds trader with a private bank, expecting the yield to stabilise at 6.90-6.95 per cent amid extended pause by the Reserve Bank. “Higher than 7 per cent yield signals a likely rate hike which is something the market is not looking at.”
Bond investors still expect the Reserve Bank to signal its comfort level on rising bond yields either via a direct intervention or other mechanism.
“The intervention by the RBI in government bonds market depends what level the central bank is comfortable with for the 10-year bond yield to hover around. This can be warranted from the interest rate trajectory of the central bank or reliant upon the next likely rate action,” the senior bond trader said. Worries over worsening macroeconomic fundamentals gathered momentum after consumer price index-based inflation quickened to seven-month high in October and the trend was maintained by the wholesale price index-based inflation too.
Consumer price index-based inflation quickened to 3.58 per cent in October after accelerating by 3.28 per cent in September. “For the 10-year bond yield, 7 per cent was a strong technical support beyond which no market participant was expecting the yield to breach. However, the stop losses were triggered mainly after the October CPI rose, limiting the window for RBI easing cycle,” said another dealer with a private bank. “If the rupee breaches 66 vis-à-vis the US dollar, overseas investors may cut market position.”