India's 10-year government bond yield surged to a two-year high of 6.54 percent on Thursday, 06 January 2022 and bond market watchers expect them to stay high, unless the RBI intervenes.
Yields were hovering around 6.5 percent earlier this week, but stabilised on Wednesday as crude oil prices fell. They have started inching up again.
Why are bond yields rising?
Several factors are at play here: States have revised their Q4 borrowing, inflation is out of control, US yields are steadily climbing, and crude oil prices are holding up. Then there is the weekly bond sale by the RBI. As a result, yields are "likely to stay under pressure until the RBI steps in to support them," according to a Reuters report.
Let's review these factors quickly.
States have revised Q4 borrowing: Nine state governments have raised nearly Rs 189 billion through state development loans (SDLs) on January 4, 2022. As per the revised auction calendar, this is 2.3 percent less than what the RBI indicated for this week (Rs 193 billion). Additionally, RBI had calculated that state governments and two union territories would borrow Rs 3.2 trillion in the coming year, up from Rs 3.1 trillion on December 31, 2021. The figure for October-December was Rs 2.02 trillion. It was revised significantly after the initial release.
"With heavy debt supply in the last quarter of the fiscal year amid high inflation, traders are reluctant to buy debt without more direct support from the central bank in the form of simultaneous bond buys and sales or direct bond purchases from the market," a Reuters report said.
Inflation: High inflation concerns and RBI withdrawals from the banking system contributed to increased yields. Retail inflation is projected at 5.1 percent for October-December and 5.7 percent for January-March. In November, inflation increased to 4.91 percent from 4.48 percent in October.
US treasury yields: Spike in US treasury yields is also contributing to the momentum, especially since the Federal Reserve's December FOMC meeting minutes were more hawkish than expected. A highly sensitive measure of interest rate expectations, the five-year Treasury yield, spiked to an almost two-year high. The 10-year yield rose to a strong level since April 2021. 30-year yields climbed to more than two-month peaks. Wednesday in the US on rising expectations for a Federal Reserve rate hike by March.
The ‘very tight’ US labour market might warrant raising rates sooner, the minutes indicated. It could also consider reducing the central bank's overall asset holdings to keep inflation under control – a process known as quantitative tightening (QT).
Crude oil: Crude oil prices jumped to the highest level since November in overnight trading Tuesday, sending the yields surging. Prices, however, stabilised Wednesday after reports that US fuel stockpiles had grown. Rising stockpiled indicates declining demand in the world's biggest oil consumer, likely due to the spike in cases after the discovery of the Omicron variant of coronavirus. Lower crude oil prices had calmed the yield Wednesday until they rose again.
Weekly bond sale: Last Friday, RBI had cancelled the auction of G-secs worth Rs 17,000 crore, likely because bond investors asked for a higher rate of interest than the central bank was agreeable to, a Business Standard report said. The same thing happened the week before and also the week before that.
Bond yields are calculated based on bond prices and the two have an inverse relationship. When yields rise, bond prices drop and vice-versa. When too many people sell a particular bond, the price of the bond drops and as a result the yield for that bond rises. Conversely, when too many people buy a particular bond, the price of the bond rise, and the yield drops.
Would RBI step in?
Central banks, in general, vary rising bond yields, since they make corporate and retail borrowing difficult by prompting a rise in interest rates. Plus, rising yields make financing state and government deficits harder.
In the last year, bond yields have gone up by over 62 basis points. As the benchmark interest rate in the economy is represented by 10-year G-secs, rising yields have raised expectations that lending rates will rise.
This combined with consumer confidence being at multi-year lows as compared to pre-COVID-19 years does not really spell positive news for the economy. And All of this could hamper the central bank's efforts to stimulate growth.
However, analysts say as long as the yields do not rise beyond the current levels, neither RBI nor the government will be much worried about it. But per a Business Standard report, economists are pricing in the rise in US yields, estimating that India's 10-year g-secs could move further to 6.7 percent.
(Edited by : Santosh Nair)
First Published: Jan 6, 2022 2:34 PM IST
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