Yields jump to two month high on rate hike fears

Eleven-year bonds dropped, pushing yields to a two month-high, as investors pared holdings on speculation rising prices will spur more rate increases.

The yield on the 8.13% note due September 2022 jumped six basis points, or 0.06 percentage point, to 8.18% at Monday's close in Mumbai, the highest level since February 11. The market will be closed on Tuesday for a holiday.

The wholesale price index probably rose 8.36% in March from a year earlier, after gaining 8.31% in February, according to a Bloomberg News survey before an April 15 government report. The central bank, which has boosted borrowing costs eight times since March 2010 to damp inflation, next meets on May 3.

"Investors are probably factoring in more rate actions and that's reflected in debt yields," said AY Shedshale, a Mumbai-based deputy general manager at Bank of Maharashtra.

RBI Governor Duvvuri Subbarao predicted last month that inflation would reach 8% by March 31 this year, compared with a 7% estimate on January 25. A "monetary response is warranted" should inflation accelerate, RBI deputy governor Subir Gokarn said April 5.

Output at factories, utilities and mines rose 3.6% from a year earlier after a revised 3.95% gain in January, the government said in a statement in New Delhi on Monday. While production growth moderated, other data including the purchasing managers' index, car sales and credit expansion have signaled that consumer demand is stoking price risks.

"Although the output data are volatile, consumer demand remains strong," said Meghna Patel, a Mumbai-based economist at STCI Primary Dealer. "We think RBI will need to tighten rates more to gain control over inflation." The repurchase auction rate, at which lenders borrow from the central bank, is 6.75%.

The cost of one-year interest-rate swaps, or derivative contracts used to guard against fluctuations in borrowing costs, rose four basis points to 7.53%.