The new five year benchmark bond that was auctioned last week saw the cut off come in at 8.07% from initial traded levels of 8.11% in the when issued marked. The 8.07% 2017 bond is the on the run five year benchmark bond and will give the market a semblance of a normal yield curve of on the run bonds. The government had issued a new ten year bond a couple of weeks back, the 8.15% 2022 bond. The 8.15% 2022 bond yield closed last week at 8.18% levels. The bond market now has a yield curve that is steep with one year yields at around 8%, five year yields at around 8.07%, ten year yields at 8.18%, twelve year yields at 8.43%, eighteen year yields at 8.57% and thirty year yields at 8.66%. The market was lacking a good yield curve before the issue of the five and ten year benchmark bonds with many off the run bonds being priced defensively by the market leading to a skewed yield curve.
A normal government bond yield curve will also help the market price corporate bonds better than what it is being priced at present. Corporate bond yield curve is inverted with one year benchmark bond yields at around 9.5% levels, two year bond yields at 9.4% levels and five and ten year bond yields at 9.35% levels. Credit spreads that determine the attractiveness of corporate bonds in relation to government bonds are at 114bps for five year benchmark AAA bonds and 101bps for ten year benchmark AAA bonds. Credit spreads have moved up with the issuance of new benchmark government bonds indicating that the corporate bonds priced off a skewed government bond curves did not give the right picture on spreads.
The OIS (Overnight Index Swaps) yield curve is inverted with one year OIS yields at 7.80% levels, two year OIS yields at 7.34%, three year OIS yields at 7.25% and five year OIS yields at 7.20%. OIS-government bond spreads are at 20bps for the one year spread and 87bps for the five year spread. The inverted OIS yield curve and a steep OIS-government bond spread curve suggest correction in the OIS market. The OIS yield curve should start steepening, following the government bond yield curve but given the different nature of the government bond and OIS markets, the steepening may take longer than expected.
Liquidity eased last week as demand for funds were lower in the reporting week. Liquidity as measured by bids for repo in the LAF (Liquidity Adjustment Facility) auction of the RBI averaged Rs 89,000 crores on a daily basis last week against an average of Rs 115,000 crores seen in the week before last. Liquidity is likely to remain in a deficit of around Rs 80,000 crores to Rs 100,000 crores in the coming weeks with a good probability of easing from the range on the back of government spending.
The lower quantum of treasury bill auctions for the quarter of July-September will improve sentiments on liquidity. The government is auctioning an average of Rs 12,000 crores of treasury bills weekly for this quarter against an average of Rs 14,500 crores weekly seen in the last quarter.
Government bond auctions and OMO’s
There government auctioned Rs 15,000 crores of bonds last week. The bonds auctioned were the new five year bond for Rs 4000 crores, the 8.15% 2022 bond for Rs 7000 crores, the 8.97% 2030 bond for Rs 2000 crores and the 8.33% 2036 bond for Rs 2000 crores. The cut offs came in at 8.07%, 8.17%, 8.56% and 8.61%. The government is scheduled to auction Rs 15,000 crores of bonds this week.