Collapse in Asia's Favored Bonds Drives Biggest Bank Away

(Bloomberg) -- How have the mighty fallen. A year ago foreign funds including Franklin Templeton Investments were piling into Indian bonds. A record-long slump has now prompted the nation's biggest bank to say enough is enough.  

India's 10-year bonds dropped for a seventh month in February, the longest-losing streak in data compiled by Bloomberg starting in November 1998. Government-run lenders such as State Bank of India, Punjab National Bank and Bank of Baroda, are the biggest holders of the securities and have been net sellers as a group this year.

“With yields moving continuously higher, there's little incentive left for banks to buy for trading purposes,” said C. Venkat Nageswar, head of treasury and deputy managing director at the State Bank of India in Mumbai. “Even the liquidity situation has worsened. So there are no reasons for banks to buy any significant amounts.”

The state-owned banks, who hold more than 80 percent of their investments in India's bonds, are reluctant to add to those holdings amid deepening treasury losses. They are keeping away amid a vicious cocktail of quickening inflation, near-record government borrowing, the prospect of higher interest rates, and rising yields around the world.

India's benchmark 10-year yield surged to 7.82 percent last week, the highest since February 2016. It may reach 8 percent in the fiscal year starting April 1, ICICI Securities Primary Dealership Ltd. said in January. The yield rose five basis points Thursday to 7.77 percent.

India's economy expanded 7.2 percent in the three months through December, the fastest in five quarters, the government said Wednesday. That compares with the 7 percent forecast in a Bloomberg survey. Analysts are predicting faster growth will add to inflation and put pressure on the central bank to increase interest rates.

“GDP data is negative for rates markets as it brings forward rate-hike expectations.” said Vivek Rajpal, a rates strategist at Nomura Holdings Inc. in Singapore. “That said, sensitivity to rate-hike expectations is largely tied up with inflation.”

Trades Slump

Bond trading volumes declined to an average 290 billion rupees ($4.4 billion) a day in the first two months of this year, from 435 billion rupees in the same period in 2017, according to central bank data.

“At this moment it's tough to see much positives for the market,” Nageswar said. “We need some positive steps for market sentiment to improve. Otherwise we may continue to see a demand-supply gap.”

Nageswar said actions the authorities could take to revive the market include raising investment limits for overseas investors, reducing the rupee's volatility, or increasing the required amount of bonds that banks need to hold.

State Bank has been trying to reduce duration and has been limiting purchases except for short-term trading, Nageswar said.

Most state-run banks already hold about 10 percentage points more government debt than they are required to under the statutory norms, he said. State Bank of India posted its first quarterly loss in 17 years in the three months through Dec. 31, partly due to a decline in treasury income.

Nageswar expects 10-year yields to range between 7.55 and 7.70 percent through the end of March, compared with his November prediction of 6.50 percent.

To contact the reporter on this story: Kartik Goyal in Mumbai at kgoyal@bloomberg.net.

To contact the editors responsible for this story: Tan Hwee Ann at hatan@bloomberg.net, Nicholas Reynolds

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