Interest rates rise as bond yields hit 14-month high

Written by fe Bureau | Mumbai | Updated: Jul 25 2013, 10:52am hrs
Yields on the benchmark government bond soared to a 14-month high on Wednesday, putting nearly R16 lakh crore worth of bonds with banks at risk of mark-to-market losses. The yield on the 10-year benchmark 7.16%, 2023 bond rose 32 basis points to hit 8.50% before closing at 8.42%. The market is readying for a further spike of 10-15 basis points after the yield has jumped 100 bps in just three weeks and is now reconciled to a status quo at the central banks monetary policy meeting on July 30.

Indeed, interest rates are already beginning to head up sharply. Short-term rates across tenures spiked in sympathy following the Reserve Bank of Indias (RBI) liquidity-tightening measures. The RBIs attempts to rein in the rupee, however, helped the currency recover by 1.08% to 59.13.

Corporates are going to feel the pinch since the cost of commercial paper has risen by 10-15 bps in a single day. Moreover, banks will certainly pass on the increase in their cost of funds to borrowers.

At least in the short run, you could see credit becoming costly, said Sunil Pant, chief general manager, financial control, State Bank of India.

The 3-month AAA-rated commercial paper was quoting at 10.75-11.00% on Wednesday, a 25 bps rise over Tuesdays levels. Yields on AAA-rated 10-year corporate bonds have risen by 10 bps and are up by a whopping 100 bps since mid-June. Issuances have halted with only two players hitting the market since the beginning of this month, dealers said.

Meanwhile, smaller banks, which have a greater dependence on bulk deposits, may soon need to tweak short-term deposits rates to attract cheaper money. If the measures are not rolled back, its possible deposit rates will start to go up, BA Prabhakar, chairman & managing director, Andhra Bank, said.

On Tuesday, the RBI capped banks borrowings from the repo tender at 0.5% of deposits of each individual bank instead of imposing a system-wide limit of R75,000 crore as it had done earlier. The central bank also said that banks must maintain 99% of their cash reserve ratio (CRR) requirements on a daily basis instead of the earlier 70%.

Its hard to call the market but the yield on the benchmark will now realign itself higher, Manish Wadhawan, head of interest rates at HSBC, said. Treasury heads believe yields could rise further once banks start maintaining CRR at the higher levels from July 27.

The 10.25% is now the floor for the call money rate and there could be occasional spikes, said a treasury official at Bank of India.

Indian banks were already sitting on substantial mark-to-market losses as bond yields have surged ever since the RBI announced its first set of measures on July 15. Tuesdays measures have tightened liquidity even further. The banking systems investment in government securities as on June 12 was Rs 21.73 lakh crore or 30% of the total deposits. Banks hold these securities in three categories held-to-maturity (HTM), available-for-sale (AFS) and held-for-trading (HFT).

Banks are mandated to keep only 23% of their deposits in government securities under statutory liquidity ratio (SLR)norms. Banks are allowed to keep 25% of the SLR portfolio in HTM. Therefore, roughly Rs 16 lakh crore worth of bonds will have to be marked to current market levels.

With the rise in yields, the government bond auctions could also get hit. Wadhawan of HSBC said cutoffs at the upcoming bond auctions could be higher. It is very possible that the devolvement at the auctions increases, said Sandeep Bagla, senior vice-president at ICICI Securities Primary Dealership.

The RBI will auction Rs 15,000 crore worth of government bonds on Friday. At last weeks Rs 12,000 crore bond auction, around Rs 3,527 crore was devolved on primary dealers.

However, the auction of two treasury bills on Wednesday went smoothly, even though the cutoff was at at 11% for 91-day T-bills. A marginal Rs 700 crore worth of bids for the 91-day T-bills was rejected.