RBI rate cut to re-ignite bond market rally

APRIL 1: The Indian bonds market began the new financial year on a buoyant note after a much anticipated interest rate reduction was annou...

APRIL 1: The Indian bonds market began the new financial year on a buoyant note after a much anticipated interest rate reduction was announced on Saturday. Traders said the central bank’s announcement of a cut in key rates will infuse fresh life into the bonds market that had been reeling under severe volatility for the past three months.

Dealers predicted a sharp fall in bond yields in the next few weeks but not much impact was expected on the Indian rupee. "The sentiment would improve dramatically in call, bond and fixed income markets. Since the last two weeks or so, the market was very subdued," V Ravikumar, chief dealer at ABN AMRO Bank said.

"The rupee would be untouched, we could see more exporters in the market selling forward dollars, premiums would come down," he said. The Reserve Bank of India (RBI) on Saturday announced a cut in the cash reserve ratio to eight percent from nine in two stages of 0.5 percentage points each, effective from April 8 and April 22.

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"The reduction in CRR by one per cent will augment lendable resources of the banking system as a whole by about Rs 7200 crore ($1.65 billion)," an RBI statement said. It also announced a reduction in the bank rate, at which the central bank lends to commercial banks and primary dealers, to 7.0 per cent from the current 8.0 per cent with effect from Saturday.

The central bank also cut the repo rate to five percent from six with effect from Monday. The rate on savings deposits with banks, which is determined by the RBI, was lowered to four percent from 4.5 with effect from April 1.

BONDS TO RECOUP LOSSES: Dealers said government bonds had their worst phase of volatility in the past year in March. Yields on ten-year bonds had fallen to historic lows close to ten percent in February, on speculation the central bank will cut rates following a reduction in rates on government-run savings schemes.

That rally was cut short when the RBI stepped in with aggressive open market operations. Expectations of the rate cut had strengthened in March amid the tighter year-end liquidity situation and hopes the RBI will have to ease rates to ensure a smooth start to the fresh government borrowing programme.

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The government’s gross borrowings in 2000/01 (April-March)are estimated at Rs 117,000 crore. "Fixed income investors had an extremely tough ride in March. But all that will reverse…the rally will regain momentum now," Vasan Shridharan, treasury economist at Standard Chartered Bank said.

The benchmark 11.83 percent 2014 bond rallied to a high of109 Rupees in thin trade on Saturday afternoon from levels of 105.90 on Friday evening, a fall of 40 basis points in yields. Dealers said forward dollar premiums will also fall sharply in early deals on Monday as exporters encash their receivables.

The six-month premium ended Friday at an annualised 3.02 per cent. The rupee ended little changed at 43.6025/6075 per dollar on Friday. Dealers said there could be an immediate and slight weakening as the market reacted to the large influx of liquidity, but it will stabilise very soon.