As Modi govt revises borrowing plan, yields on 5-year bonds move upwards

Illustration by Binay Sinha
The yields on the five-year bonds jumped on Friday, but the benchmark 10-year remained relatively calmer after the government announced extra borrowing of Rs 1.1 trillion, to be raised equally in five and three year tenures, to compensate states on good and services tax (GST) shortfall.

Separately, the central bank announced Rs 10,000 crore secondary market purchase of state bonds, it’s first in history, to be conducted on Thursday next week. The open market operations of state development loans (SDL) were announced in the monetary policy to bring down yields of the state bonds so that they can borrow near about the cost the centre is paying for its borrowing. In the first such SDL OMO, the RBI will buy bonds of Andhra Pradesh, Arunachal Pradesh, Assam, Bihar, Chhattisgarh, Goa, Gujarat, Haryana, Himachal Pradesh, Jammu Kashmir, Jharkhand, Karnataka, Kerala, Madhya Pradesh and Maharashtra.

Other states will likely find space in the OMO in later OMOs. The RBI has no fixed amount earmarked for how much OMO of state loans it will eventually do, but the central bank will likely chip in to cool the borrowing costs of state as and when required. 

However, the need for extra borrowing by the states is significantly reduced now as the centre is now borrowing on their behalf. This can help raise the money at much cheaper rates than what the states would have paid themselves to borrow from the markets. 

Bond dealers as such didn’t seem very perturbed with the extra borrowing, but said the initial reaction on the five and three year bonds would be adverse because they also declined by about 25-30 basis points after the policy on October 9.

The yields on the 10-year bond was trading at 5.913 per cent from its previous close of 5.898 per cent, the 5-year bond rose to 5.257 per cent from its previous close of 5.161 per cent at 12.55 pm. The yields on the three-year bond rose to 4.751 per cent, from its previous close of 4.718 per cent on Thursday.

“The incremental borrowing, while it will put pressure on the market, is in a way a positive. It will put an end to the Centre-State GST shortfall controversy, at least for the time being. It does away with the incremental state borrowing on this count,” said Joydeep Sen, fixed income consultant at Philip Capital.

Besides, the government is raising money for the shortfall in GST cess and not for its other expenditure, and hence the deficit is being maintained for now, bond dealers and economists said.

“While the overall supply/demand balance (across state + central government) of bonds is unchanged, we see this as a negative near-term development. However, while the government’s financing challenges (due to the wider fiscal deficit) remain, they may now be less inclined to rely on market borrowing to finance this gap,” said Nomura. 

“Irrespective of the market's knee jerk reaction on Friday, one feels that the current set of announcements will eventually help in reducing uncertainties and anchoring market sentiment over the coming weeks, especially given the intelligent selection of the maturity buckets for the additional borrowing that enjoy strong demand. The current set of announcements may also lead to further flattening of the yield curve, thereby inducing better transmission of the RBI's monetary easing,” said Siddhartha Sanyal, Bandhan Bank's chief economist and head of research.

Following the government’s announcement, the Reserve Bank of India (RBI) came up with a revised issuance calendar where it said that the amount will be raised at Rs 55,000 each in three years and five years’ securities.

With this, the government will be borrowing Rs 4.88 trillion for the rest of the financial year. On September 30, the RBI had said the government planned to borrow Rs 4.34 trillion for the second half of the fiscal. Of this, Rs 28,000 crore has been raised earlier, and another auction of Rs 28,000 crore will be done today.

The auctions under the revised calendar will start from the next week.

The bond market has heaved a sigh of relief after the October 9 monetary policy. The central bank had assured of ample support to the market, and doubled the secondary market bond purchase programme to Rs 20,000 crore. The first such open market operations (OMO) conducted on Thursday showed the central bank accepted full Rs 20,000 crore as it had originally promised. This is a departure from the central bank’s earlier stance of rejecting bids on 10-year bond auctions and even cancelling an OMO.

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