India bonds fall as oil tops $100/bbl, reviving inflation concerns

Indian government bonds weakened on Wednesday as Brent crude surged above $100 a barrel, rekindling inflation woes and darkening the interest-rate outlook.

Brent ​crude futures topped $100 a barrel in Asian trade as Washington and Tehran stepped up strikes on ships and key military bases, sharply escalating their six-month-old war.

The benchmark 6.94% 2036 ‌bond yield ⁠settled at ⁠6.9568%, 1.5 basis points above Tuesday's close. Bond yields move inversely to prices.


"Sentiment is distinctly negative. If oil remains above $100 per barrel, it could pressure the government's finances," said Debendra Kumar Dash, senior vice president of treasury at AU Small Finance Bank.

Still, the 10-year yield is unlikely to breach 7% in the near term, even if ​oil holds at current levels, while insurer demand ⁠could cushion ‌the long end of the curve, Dash said.

Selling pressure ​was contained ​on Wednesday by a large, undeployed liquidity surplus in the ⁠banking system.

The surplus surged to a record 11.16 trillion rupees ($117.30 billion) on Sunday, fuelled by stronger-than-expected inflows from the Reserve Bank of India's dollar-attracting measures, and has eased only marginally since.

The RBI has conducted several back-to-back variable-rate reverse repo operations to drain cash since June, but the operations have failed to pull overnight rates back toward the policy corridor, prompting traders to watch for additional liquidity-absorbing steps.

The central ‌bank likely conducted near-maturity dollar/rupee sell-buy swaps on Wednesday to absorb the surplus rupee liquidity, seven bankers said. The swaps were ​likely for September ​maturity, with some also ⁠pointing to October.

Investors now await signals on U.S. and Indian policy rates. U.S. inflation data is due later this week, followed by the Federal Reserve's decision ​next week; India's inflation reading is also scheduled next week.

RATES

Oil's break above $100 sparked paying in Indian overnight indexed rates after several sessions of easing.

The one-year rate rose 3.25 bps to 5.9850%, the two-year jumped 4.75 bps to 6.1850%, and the five-year added 4 bps to 6.48%.