The new 10-year benchmark government bond that went on sale on Friday saw a cut-off yield of 6.9700%, breaching the 7% mark for the first time in seven years. At the end of the session, the yield stood marginally lower at 6.9651%.
Traders said this pricing is indicative of increasing demand for Indian gilts, given the low-interest regime in most developed economies. The prevalent macroeconomic factors are also supportive of this trend, with most market participants expecting the CPI (consumer price index) inflation to settle around 5% by the end of the current financial year.
“The market always factors in things in advance and the yield on the new benchmark indicates that inflation will remain under control, at least in the immediate-to-medium term,” Ajay Manglunia, executive vice-president and head of fixed income at Edelweiss, told FE.
Traders also said the yield represents comfortable levels of liquidity in the system and that if their predictions for inflation turn out to be accurate, the benchmark yield may decline further to around6.50%-6.60% by the end of March 2017.
“Given that the close to 40% of the world lives in negative-interest rate countries, Indian bonds will continue to look attractive. Inflows into bonds are only expected to increase as we go ahead and we might see the benchmark yield falling further, especially if we see a rate cut from the Reserve Bank of India. We expect the RBI to cut lending rates 25-50 bps over the remainder of FY17,” Manglunia said.
However, some market watchers are a bit sceptical about bond prices sustaining the current rally for much longer. Given that the second half of a financial year is usually busier than the first half, there might be an increase in credit offtake from banks, which could have an adverse impact on bond yields.
“I think the sub-7% yield could be a function of the liquidity in the system being comfortable. But there are factors that could weigh on gilts such as the advance tax numbers that are expected to come out later this month. There is always a bit of tightness after that,” Kartik Srinivasan, senior vice-president at ICRA, told FE.
He added that ICRA does not expect a rate cut of more than 25 basis points in the current financial year.