As expected the RBI kept interest rates unchanged in its monetary policy review but governor Shaktikanta Das dedicated a full seven paragraphs on “financial market guidance” assuring traders of “access to liqudity and easy financial conditions” in an unequivocal signal that interest rates across the board would have to remain depressed.
The central bank doubled the quantum of bond it purchases each time to Rs 20,000 through so called open market operations (OMO), extended the facility for even state bonds and allowed banks to classify 22% of their investments as held to maturity (HTM) up to March 2022 from March 2021 to keep a cap on rising yields.
The governor’s announcement had an instant impact on the bechmark bond as its yield dropped to 5.91% from Thursday’s close of 6.01% before ending at 5.94%.
Financial markets cheered the policy pronouncements, which were unveiled at 10 am with the Bank Nifty climbing 2% by noon and ended 2.8% higher. The rupee climbed to Rs 73.16 against the dollar up from Rs 73.24 at close on Thursday.
“The augmented borrowing programme for 2020-21 has been necessitated due to the exigencies imposed by the pandemic in the form of the fiscal stimulus and the loss of tax revenue. While this has imposed pressures on the market in the form of expanded supply of paper, the RBI stands ready to conduct market operations as required through a variety of instruments to assuage these pressures, dispel any illiquidity in financial markets and maintain orderly market conditions,” Das said in a prepared address.
He urged market participants to take a broader view and “display bidding behaviour that reflects a sensitivity to the signals from the RBI in the conduct of monetary policy and debt management” even as he sought “cooperative solutions” for the borrowing programme for the second half of the year.
Treasury heads said the governor’s words have spoken and its enough for now but actions will have to take over from hereon.
“He has used the right words like co-operative and competitive without being combative. Ensuring that liquidity will be provided till early next financial year is also a positive. Bringing state bonds within OMOs is also a step in the right direction. Now he has to act at the right time by providing liquidity at the right time. Timing is very important be it in the execution of OMOs or bond auctions,” said Jayesh Mehta, country treasurer at Bank of America.
Mehta was referring to the devolvement in bond auctions in August and the lack of follow up buying in the subsequent OMO auction as all bids were refused even as the market signalled that yields have to be higher than the 6% threshold set by the central bank.
Traders say the RBI’s stubboness to keep yields under check to ensure safe passage to the state and central government’s Rs 40,000 crore per week borrowing programme even as it is troubled by rising inflation are causing a dicotamy in the market.
“The RBI has patted itself on the back by saying it has managed government borrowing at a weighted average cost of 5.82% but there has been no attempt or inclination to really bring yields down. What had stopped the RBI from announcing a calender for OMOs? The doubling of the OMOs is too little because right now there is no clarity on how much they plan to do in what period,” said the head of trading at a large primary dealership.
Some traders said the RBI’s celebrations on lower weighted average government borrowings do not reflect the correct picture because the central bank has the powers to reject bids not suited to its expectations like it did in August and September.
Market participants say that bond yields will come down further only if government spending picks up infusing liquidity, RBI does OMOs more frequently and fresh funds flow in through new term loan repos announced by the RBI.
“There are some green shoots visible like car sales and home registrations. Monthly GST collection at Rs 96,000 crore is also at pre Covid levels so there is some semblence of normalcy. If inflation comes down in January then there could be more room to cut rates but yields are likely to be at around current levels for the time being,” said Harihar Krishnamurthy, head of treasury at FirstRand Bank.
The sucess of the auction conducted on Friday showed that the market has taken the governor’s statement positively and will wait for further data and RBI measures to decide the direction from here.