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November 2012

Indian call money rates moved in the broad range of 7.10-8.20% in October amid moderate demand. A spurt in call rates was seen during the first week of the reporting fortnight as banks borrowed heavily to meet their reserve requirements. However, a further rise in call rates was capped due to comfortable liquidity in the banking system. The liquidity scenario also improved as banks and corporates released funds withdrawn (to meet quarter end and advance tax requirements, respectively) during the previous month.

Gilt prices retreated during the month amid high volatility with the yield on the 10-year benchmark 8.15%, 2022 bond ending at 8.21% on October 31 compared to 8.15% on September 28. Earlier, the prices had gone up as the market was expecting an interest rate cut by the RBI during its policy review on October 30. These views were reinforced by comments from the RBI deputy governor and the central government’s finance minister that monetary and fiscal policies in India should work in tandem. Prices, however, plunged later in the month as hopes for a rate cut were dashed after the central bank kept its key interest rates steady during its policy review; however, the RBI continued with its measures to ease liquidity in the system. In its policy review, the RBI cut the cash reserve ratio (CRR) of scheduled banks by 25 bps to 4.25% of their net demand and time liabilities (NDTL) effective the fortnight beginning November 3, 2012; as a result, around Rs 17,500 cr of primary liquidity will be injected into the banking system.

Losses were also seen earlier in the month as the RBI Governor’s remark on inflation and fiscal deficit dashed hopes of an interest rate cut. The  RBI Governor said that inflation needs to come down further; he also reiterated that fiscal deficit will be an important variable for the monetary policy and that the RBI will take into consideration the final fiscal deficit number. Prices fell further after ratings agency S&P warned there was a likelihood of India's credit-rating downgrade. Better-than-expected IIP reading for August and a higher-than-expected September inflation number also damped sentiments for gilts during the month.

SBI Mutual Fund - Debt Outlook - Nov 2012 - Graph

We expects the yield on benchmark 10 year G-sec to settle around 8.0-8.2% by March-end 2013 government borrowing will remain high in the current fiscal and the pressure on 10-year G-sec yields may continue.