Rupee Bond Bulls See Patel Cash Sustaining Fed-Defying Rise

(Bloomberg) -- The promise of central bank cash helped Indian sovereign bonds eke out gains last month during the worst rout for global debt markets in almost six years. Traders see that pattern repeated in November.

Indian bonds returned 0.8 percent in an 11th consecutive month of gains in October, even as global debt lost 3.7 percent amid signs the U.S. Federal Reserve is preparing to raise interest rates, indexes compiled by Bloomberg show. While the yield on benchmark 10-year rupee government notes has risen 15 basis points from a seven-year low of 6.67 percent on Oct. 5, DCB Bank Ltd. sees Reserve Bank of India debt buying stemming the declines.

“The RBI will need to do a series of bond purchases by way of open-market operations and that will bring in some value buying,” said Debendra Kumar Dash, a Mumbai-based trader at DCB Bank. “That will give a fillip to the market.''

RBI Governor Urjit Patel last month said that an accommodative policy stance -- which has included bond purchases to ensure sufficient banking-system liquidity -- should spur a revival in lending while analysts also expect it to support Prime Minister Narendra Modi's record borrowing program. The government last week had to seek help from primary dealers to rescue its debt sale, fueling speculation investors were demanding higher yields to hold sovereign paper.

The expectation that the central bank will increase the pace of bond buying has grown after banking-system liquidity fell into deficit, contrary to the RBI's neutral liquidity stance adopted in April.

The average system liquidity deficit worsened to 445 billion rupees ($6.7 billion) for the week ended Oct. 29, surging 63 percent from 273 billion rupees in the previous week, Kotak Mahindra Bank Ltd. analysts Upasna Bhardwaj and Madhavi Arora estimated in a report Tuesday. Conditions may tighten this week given $2.1 billion of non-resident deposits that are set to mature till Nov. 4, they wrote.

The monetary authority will probably infuse as much as 400 billion rupees into the banking system over the next two months by way of bond purchases, topping up the 1.1 trillion rupees it has added since April 1, according to Nomura Holdings Inc. PNB Gilts Ltd., one of the primary dealers that trade with the central bank, predicts purchases of as much as 500 billion rupees. The RBI bought 100 billion rupees of bonds in each of the previous three months to October.

To read more on Patel's $20 billion outflow baptism, click here

“The RBI has stated that they want the banking-system liquidity to be reasonably good and to address that, I am sure there will be more bond purchases,” said Vijay Sharma, executive vice-president for fixed income in New Delhi at PNB Gilts. While the cash crunch and outlook for Fed's rate increases are “unnerving investors,” rupee bonds are expected to trade in a narrow range of 6.75 percent to 6.82 percent in the coming months, Sharma said.

The impact of higher global yields was evident last week when underwriters rescued a sovereign bond sale. The government raised 150 billion rupees, with underwriters buying 12.1 billion rupees of 2022 notes. That rekindled memories of early this year when the government missed its target at bill auctions and underwriters had to step in.

The central bank's decision in April to move to a regime of neutral liquidity in the banking system from a deficit followed repeated problems with debt sales and lenders' reluctance to completely pass on the RBI's interest-rate cuts.

India's 10-year sovereign notes last week declined the most in eight months. The yield on the benchmark notes rose 3 basis points, the biggest jump since the period ended Feb. 27. It is seen rising to 6.85 percent by end-2016, according to the median in a Bloomberg news survey. The yield was little changed Wednesday at 6.82 percent, while the rupee traded at 66.72 per dollar.

“It's quite likely that OMO bond purchases will pick up pace given the liquidity situation,” said Suyash Choudhary, Mumbai-based head of fixed income at IDFC Asset Management Co. that oversees about 543 billion rupees of assets. He expects the RBI to buy bonds worth 300 billion rupees to 400 billion rupees in the next two months.

To contact the reporter on this story: Kartik Goyal in Mumbai at kgoyal@bloomberg.net. To contact the editors responsible for this story: Garfield Reynolds at greynolds1@bloomberg.net, Candice Zachariahs, Tomoko Yamazaki