Bond yields closed sharply higher on Wednesday after the Reserve Bank of India (RBI) left rates unchanged. Market participants were expecting a cut in rates by atleast 25 basis points with some expecting a steeper 50 basis point cut.
The decision taken by the Monetary Policy Committee (MPC) belied those expectations.
The benchmark 10-year bond ended the session at 6.40 percent compared to its previous close of 6.20 percent. Ahead of the policy, the 10-year yield had fallen to a low of 6.17 percent.
While the RBI left rates unchanged, the central bank did roll-back the 100 percent cash reserve ratio (CRR) imposed on deposits between September 16 and November 11. In a statement the RBI said that it intends to manage liquidity through the liquidity adjustment facility (LAF) window and through the issue of Market Stabilization Scheme (MSS) bonds. The central bank intends to maintain a neutral stance on liquidity, as it indicated earlier this year, said RBI governor Urjit Patel in the post policy press conference.
Where Are Yields Headed?
According to Dhawal Dalal, chief investment officer - fixed income at Edelweiss Mutual Fund yields may trade in a range of 6.30-6.50 percent from here on. This would restore the spread that has typically persisted between the repo rate and the benchmark bond yield.
RBI's latest move came as disappointment for market-participants who were factoring in atleast 25 bps rate cut by Reserve Bank of India...Yields are expected to trade higher in the range of 6.30 percent to 6.50 percent going forward in the medium term, which is 15-20 bps above the repo rate.Dhawal Dalal, Chief Investment Officer - Fixed Income, Edelweiss Mutual Fund
Dalal added that the RBI's decision was appropriate given the likely interest rate hike by the US Federal Reserve later this month and the stickyness in core inflation.
“Also, the absence of data to assess the impact of demonetisation made it prudent for Reserve Bank of India to stick to status quo stance,” said Dalal.
Ananth Narayan, co-head for wholesale banking at Standard Chartered - South Asia, also expects bond yields to trade in a range of 6.25 percent to 6.50 percent till the next policy monetary policy meeting. The removal of liquidity and the increased supply of short term bonds will push up yields, he said.
This is on account of the central bank's liquidity neutrality stance, which means lots of MSS (market stabilization scheme) bonds would flood the system with government bonds which in turn may put pressure on government bonds... Overall, the broad expectation is that Reserve Bank of India would cut rates in the new year post budget.Ananth Narayan, Head - Financial Markets, Standard Chartered Bank
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