Spread between T-bill, benchmark bond widens on surplus liquidity

August 12, 2021 1:45 AM

The surplus liquidity in the banking system surged in July after reduction in cash in circulation and liquidity infusion through purchase of government securities under the G-Sec Acquisition Program (G-SAP).

The rise in the yield on the 10-year bond was seen because of the devolvement on primary dealers in the first auction, rising crude oil prices and higher inflation print in May and June.The rise in the yield on the 10-year bond was seen because of the devolvement on primary dealers in the first auction, rising crude oil prices and higher inflation print in May and June.

By Manish M. Suvarna

The spread between 364-day treasury bills (T-bill) and 10-year benchmark government bond has broadened in the past few weeks due to surplus liquidity in the banking system and a sharp rise in bond yields. At present, the spread between the one-year T-bill and the 10-year bond is approximately 250 basis points, nearly 60-70 basis points higher than usual.

“The spread between the T-bill and G-Sec has widened because T-bill rates have come down due to increase in liquidity surplus; while rising inflation and a potential rate hike is keeping 10-year yield elevated,” said Pankaj Pathak, fund manager, fixed income, at Quantum Asset Management.

The cut-off yield on T-bills has fallen sharply in the past couple of weeks due to an increase in systemic liquidity. Since July 7, the cut-off yield on 364-day and 182-day T-bills eased 15 basis points each. Similarly, yields on 91-day T-bills moderated by 5-6 basis points. On August 11, the RBI set the cut-off yields at 3.3892% on 91-day, 3.4695% on 182-day, and 3.6908% on 364-day T-bills.

The surplus liquidity in the banking system surged in July after reduction in cash in circulation and liquidity infusion through purchase of government securities under the G-Sec Acquisition Program (G-SAP).

Currently, the liquidity in the system is expected to be in surplus of around Rs 7.5 lakh crore and it is expected to rise further this week due to inflows from G-SAP, government spending, and coupon flows or redemptions are expected to exceed outflows from excise duty, auctions and CIC leakage.

The spread has also widened because the yield on the 10-year benchmark bond continued to rise even after the rates on T-bills fell. The rise in the yield on the 10-year bond was seen because of the devolvement on primary dealers in the first auction, rising crude oil prices and higher inflation print in May and June.

Further, the bond yields have been under pressure after the central bank revised the consumer price index forecast in the monetary policy. This move was much anticipated by the market and participants adjusted their positions ahead of the policy. The yields had sharply risen on the policy day, but later moderated after the RBI did not accept any bids on 10-year 6.10%-2031 benchmark bond.

Market participants expect cut-off yields on T-bills unlikely to fall further as liquidity surplus is expected to narrow in coming days, as the RBI will pull out liquidity from the system through variable rate reverse repo (VRRR). It will conduct four VRRR auctions of Rs 13 lakh crore and the quantum will increase by Rs 50,000 crore with each auction.

“Cut-off yield may not ease further on T-bill, but marginal moderation can be seen in one or two auctions because even though the RBI is withdrawing liquidity, but on the other hand, G-SAP auctions and coupon inflows will infuse little liquidity into the system,” a dealer with a small finance bank said.

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