Bond yields rise on supply worries, fear of poor bidding at Friday’s primary sale

NEW DELHI: Government bonds surrendered earlier gains and settled lower on Thursday as investors chose to free up room in their portfolios before a primary sale of sovereign debt worth Rs 32,000 crore on Friday, treasury officials said. On Thursday, the 10-year benchmark 6.10 per cent, 2031 paper settled at 6.12 per cent yield against 6.11 per cent on Wednesday. The 5.63 per cent,2026 bond, the most traded paper, ended at 5.69 per cent versus 5.66 per cent at previous close.

Bond prices and yields move in inverse directions.

With elevated domestic inflation and heavy supply of government paper taking a toll on demand, the market fears that Friday’s auction could see investors bidding at high yield levels, which RBI may not be comfortable with. Primary dealers, the entities that underwrite government debt auctions, felt some of the bonds on offer would include the 5.63 per cent, 2026 paper.

The 5.63 per cent, 2026 bond, which is among the most liquid securities in the secondary market, has witnessed a sharp rise in yield over the past couple of months because of an unexpected rises in inflation, which have led to concern over RBI normalising its ultra-loose monetary policy that it has adopted to shield the economy from the coronavirus crisis.

Moreover, the possibility of extra supply of bonds in short-term brackets has also lifted bonds yield in maturity buckets of two to five years.

In May, the government announced a Rs 1.58 lakh crore increase in market borrowing in order to finance a likely shortfall in state governments’ compensation cess under the Goods and Services Act. Traders believe the fresh supply of bonds will be packed into securities maturing in three to seven years.

“With this kind of inflation, whether you look at core inflation or headline inflation, it will be difficult to keep bringing down bond yields,” Naveen Singh, Head of Trading and Executive Vice President at ICICI Securities Primary Dealership, said.

“Additionally, the supply pressure is huge. Maybe RBI may have to accompany its ‘Government Securities Acquisition Programme’ with more OMOs and Operation Twists,” he said.

India’s Consumer Price Index inflation was at 6.26 per cent in June, well above RBI’s target band of 2-6 per cent. The rise in consumer prices was primarily led by high food and fuel prices, the data showed.

Bonds had gained at open as a sharp drop in crude oil prices and US Treasury yields coupled with dovish remarks by US Federal Reserve Chair Jerome Powell strengthened market appetite. Yield on the 2026 bond fell to a low of 5.65 per cent on Thursday.

Lower oil prices have a softening effect on domestic inflation providing more room for RBI to ease interest rates whereas a fall in US bond yields would increase the appeal of relatively higher-yielding fixed-income instruments in riskier emerging markets such as India. Market-wide turnover rose with deals worth Rs 26,725 crore being struck on Thursday against those worth Rs 20,735 crore transacted on Wednesday.