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August 2011

Interbank call money rates hovered in the range of 7.40-8.10% in the month with pressure on rates arising mainly on account of strong demand from banks to meet their reserve requirements in a holiday shortened month. Call rates however eased intermittently in the month due to comfortable liquidity in the market.

Gilt prices rose in the month with the benchmark 10 year paper 7.80%, 2021 ending at 8.32% yield on August 30 as compared to 8.45% on July 29 as concerns over global economic growth supported the view that risk of the slowdown spilling over to the domestic economy may discourage the RBI for hiking rates further. The easing in UST yields and the downward movement in global crude prices supported market sentiments, resulting in the benchmark 10 yr yields trading as low as 8.20% during the month. Gilts also got some support after the RBI Deputy Governor commented said that high interest rates have started impacting consumer demand, thereby reinforcing hopes that the central bank may not hike rates going forward. Concerns over monetary tightening eased further due to a retreat in the monthly inflation rate and signs of slowdown in the domestic economy. Intermittent fall in US bond yields and retreat in international crude oil prices also augured well for the domestic bonds. Sentiments improved further as concerns over an unscheduled bond supply were allayed after a Senior Finance Ministry official said that the central government will stick to its budgeted gross borrowing target of Rs 4.17 lakh cr for FY12.

Further gain in prices was however capped as fear of further rate hikes by RBI resurfaced following better expected industrial output data and intermittent rise in weekly food inflation. Gilts also suffered after the RBI’s Governor commented that it was too early to say if the RBI will change its policy stance and that the policy focus remained inflation management. Improvement in global risk appetite after US Federal Reserve Chairman said that the US economy did not immediately require any stimulus, and sporadic rise in oil prices dented sentiments for Indian gilts further.


Macro Forecast
Renewed concerns regarding the fragile macro economic situation both in the US and the Euro Zone and the higher risk aversion sentiment post the US rating downgrade dominated the trajectory of bond yields. In spite of the recent volatility witnessed in IIP and weekly inflation numbers, we anticipate that the monetary policy tightening phase is closer to peak. The weak near term growth prospects in the developed world and the impact of recent aggressive monetary tightening in the emerging markets would restrain further build up in commodity prices in a sustained manner. The lagged impact of previous aggressive monetary tightening in a scenario of deficit systemic liquidity has substantially improved the monetary transmission mechanism. The money market segment continues to reflect the improving systemic liquidity scenario with the short end CD’s trading in a range of 9-9.20% during the month. The structural improvement in liquidity situation reflected in higher deposit growth vis a vis the credit growth is likely to keep the money market rates stable in a range.