Liquidity as measured by bids for repo in the LAF (Liquidity Adjustment Facility) auction of the RBI was in deficit of Rs 17,705 crores on Friday the 3rd of August, the lowest deficit seen since 6th of July 2012 where the bids for repo totaled Rs 11,530 crores. Liquidity, which has perennially be in deficit over the last two years is showing signs of getting into positive territory and bond markets will welcome this situation helping ease the disappointment over the lack of policy rate cuts by the RBI in its 31st July policy review.
Liquidity has been easing steadily since May 2012 with average weekly bids for repo coming off from levels of Rs 100,537 crores to levels of Rs 39,000 crores as of 3rd August 2012. The steady fall in liquidity is due to RBI government bond purchases of over Rs 80,000 crores since April 2012 and due to banks deposits growing much faster than credit growth in the April to July 2012 period. The banking aggregates data shows aggregate deposits rising by an absolute amount of Rs 1,09,270 crores and bank credit growing by an absolute amount of Rs 19,650 crores in the 30th March 2012 to 13th July 2012 period.
The easing liquidity situation has shown up in yields on money market securities. Bank CD (Certificate of Deposit) yields across the money market curve, which is one month to one year maturity, have dropped by 60-70bps from highs seen earlier this fiscal year. Banks are not showing heavy demand for funds in the institutional market, as their credit growth has been almost non existent fiscal year to data.
The outlook for liquidity in August is benign. RBI pays dividend to the government in August and this will find its way into the system. The budgeted dividend expected from the RBI is around Rs 23,000 crores. Credit is unlikely to pick up in August as the busy season starts in October 2012. RBI’s intervention in the currency forward markets, which is around USD 10 billion, comes up for maturity starting September 2012. RBI is confident that liquidity will not be heavily affected as the forward contracts come up for maturity in a staggered manner.
September is when liquidity is likely to face some stress on advance tax outflows and maturity of RBI swaps. However this is likely to be temporary rather than permanent in nature as advance tax outflows come back into the system through government spending. A weak monsoon is likely to affect credit off take in the busy season leading to lower stress on liquidity.
Government bonds saw yields trend up as RBI held policy rates status quo and lowered the SLR (Statutory Liquidity Ratio) by 1% in its policy review on the 31st of July 2012. Government bond yields rose 11bps to 17bps across the curve on the back of lowering of the SLR. Bond markets will look out for signs of reduced demand for bond auctions from banks given the 1% reduction in SLR. The first auction post the SLR cut did not show any signs of the cut affecting demand for bonds with the auction being well covered.
Interest rate swap market saw the yield curve rise on the back of rising government bond yields. One year OIS (Overnight Index Swap) yields rose 9bps while five year OIS yields rose 6bps week on week. OIS markets will watch for signs of liquidity easing and if that comes about the one year OIS yield will fall much faster than the five years OIS yield.
Corporate bonds shrugged off disappointment on rate cuts to close marginally negative week on week. Five and ten year AAA benchmark corporate bond yields rose by around 3bps week on week. Corporate bond yields will trend down on signs of easing liquidity.
Government bond auctions
The government auctioned Rs 15,000 crores of bonds last week. The bonds auctioned were the 8.19% 2020 for Rs 4000 crores, the 8.33% 2026 bond for Rs 7000 crores, the 8.28% 2032 bond for Rs 2000 crores and the 8.33% 2041 bond for Rs 2000 crores. The cut offs came in at 8.29%, 8.39%, 8.58% and 8.65% respectively. The government is scheduled to auction Rs 15,000 crores of bonds this week.