Santa Claus rally in India bonds to ride on after RBI's liquidity injection gift

The latest intervention from the central bank through liquidity ‍injection will ensure a sustained ​rise in government bond prices, as well as ensure banking ⁠system liquidity stays at an optimal level till the end of this financial year, traders said.

CONTEXT

The Reserve Bank of India will inject up to 2.90 trillion rupees ($32.34 billion) through a combination of ‌bond buying ‌and foreign exchange swaps over four weeks starting December 29.


The RBI will purchase bonds worth 2 trillion rupees, ‌along with a $10 billion dollar-rupee swap for three-year period.

WHY ITS IMPORTANT

The move to absorb over 65% of the government bond supply over the next quarter will ensure yields remain structurally lower. With the 10-year bond yield ending the prior quarter at 6.57%, a close beneath that level would be a positive for banks - major holders of government debt - when marking their investment portfolios ‌to market at ‍the end of March.

Lower bond yields are also key to ‍ensuring that policy rate cuts feed through to the ‌economy, boosting demand for credit and reducing the government's borrowing costs.

Banking system liquidity, which has been swinging between deficit and surplus, is also expected to take a clearer direction, as comfortable conditions are essential for faster and more effective monetary policy transmission.

GRAPHIC

KEY QUOTES

"RBI measures confirm central bank is committed to keep liquidity conditions easy, and surplus of 1% of deposits is now achievable ‍by end of the year. However, the pace of injections is a surprise and more than double the monthly rate of buying ‍we had ⁠assumed," said Abhishek Upadhyay, ⁠senior economist at ICICI Securities Primary Dealership.

"The move was necessary and I will not be surprised if more is announced in March. I expect the 10-year bond yield to test 6.48%, before moving towards 6.30% level in medium term," said Alok Singh, head of treasury at CSB Bank.

MARKET REACTION

India's 10-year benchmark bond yield drops to 6.55%, 15 basis points lower than day's high of 6.70% hit on Tuesday. The five-year 6.01% 2030 bond yield has plunged 17 bps to 6.32%.

($1 = 89.6725 Indian rupees)