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Government bonds gain as crude prices, US yields fall

Government bonds gain as crude prices, US yields fall

16 Jul 2021

NEW DELHI: Most government bonds gained at the open on Friday as fall in crude oil prices and US yields and disbursement of funds by the Centre to states for GST compensation led to hope that the market would be spared from the burden of heavy additional borrowing.

The 5.63% 2026 bond, the most traded bond so far, opened at 5.65% yield, 4 basis points lower than the previous close. The 10-year benchmark 6.10% 2031 bond, however, was largely steady at 6.11% as traders were wary of adding on exposure to longer-dated securities in the face of heavy bond supply.

Bond prices and yields move inversely.

Crude oil futures for August delivery on the New York Mercantile Exchange dropped $1.48 to settle at $71.65 per barrel on Thursday after an official release showed a jump in US supplies of fuel. A decline in crude oil prices has a softening effect on India’s inflation as the country is a large importer of the commodity.

The US Treasury yields inched lower, with the 10-year note last trading at 1.33%, 3 basis points lower than its previous close.

A fall in US yields typically encourages foreign investors to step up purchases of relatively higher-yielding fixed-income assets in riskier emerging markets such as India.

Late Thursday, the Centre issued a press release saying that it had released Rs 75,000 crore to state governments in lieu of compensation under the Goods and Services Tax and that the disbursement was in addition to the normal GST compensation being released every two months out of the actual cess collection.

The government said that the Rs 75,000 crore would be funded from market borrowings through 2-year and 5-year government securities worth Rs 6,500 crore and Rs 68, 500 crore respectively.

The release led to speculation that the government may borrow a smaller amount of the already announced additional borrowing to fund the likely shortfall in GST compensation cess.

In May, the government had announced additional bond issuances worth Rs 1.58 lakh crore to compensate state governments for a shortfall in the GST compensation cess.

“The government will have to borrow the extra amount; there is no doubt about that. But after this release, it seems that the quantum could be smaller,” a senior treasury official at a large foreign bank said.

“It is likely that the government is making use of its large cash balance and sparing the market of the additional borrowing in the first six months of the year. Whatever will come will now likely come in the second half of the year,” he said.

Gains were, however, capped ahead of today’s primary debt sale worth Rs 32,000 crore.

Given elevated inflation and a very large government borrowing programme, demand at auctions has been tepid so far in the financial year, with the RBI being compelled to devolve large portions of bonds up for sale on the books of primary dealers as a sign of its discomfort with high yields demanded by investors.

Of the four bonds up for sale today, some traders feared that the 5.63% 2026 paper could land up being devolved on the books of underwriters.