Interbank call money rates moved in the range of 7.15-7.75% in the month amid moderate demand for funds from banks. Rates firmed up cyclically during the month as banks bought more to meet reserve needs at the start of the reporting fortnight. Lesser working days in the month on account of market holidays also added to the pressure on call rates. Further rise in call rates was arrested as bank rates lowered their lending rates after meeting reserve requirements during the month.
Indian government bond prices rose sharply in the month primarily on hopes of steeper rate cuts by the Reserve Bank of India (RBI) considering the macroeconomic situation in the country. These hopes were fanned especially after data showed a fall in the country’s inflation numbers. While the most watched headline wholesale price index (WPI) inflation fell to 5.96% in March, a 40-month low for the index, the new Consumer Price Index (combined) fell to a four-month low of 10.39% in March. A sharp fall in crude oil prices during the month also augured well for bonds as it will reduce inflationary pressure and increase the chances of a rate cut by the RBI. Bond prices were also supported by subdued global risk appetite led by weak economic data from the US and China. Government bond prices rose sharply after the government cut the withholding tax rate on foreign investment in gilts to 5% for two years from 20%. Sporadic value buying and short covering pushed the prices up further. The yield on the 10-year benchmark 8.15%, 2022 bond fell to 7.73% on April 30 compared with 7.95% on March 28.
Some gains in prices were capped as investors booked profits ahead of the gilt auctions that commenced for the current fiscal year. Consistent rise in global crude oil prices later in the month also dampened hopes that the RBI might soften its stance, in addition to delivering the rate cut at its monetary policy. The 10-year benchmark was separately affected due to a dip in interest as the government is likely to issue a new 10-year bond soon.
A higher fiscal deficit is also expected to put some pressure on the benchmark 10-year G-sec yields. However, we expect yields to fall to 7.7-7.8% by March end 2014, assuming - (i) a 50-75 basis points repo rate cut by the Reserve Bank of India (RBI) in 2013-14 which will lower the floor for G-sec yields and (ii) subdued inflationary expectations and continued open market operations (OMOs) by the RBI.