Bloomberg News

Higher Borrowing Means Central Bank to Buy Bonds: India Credit

October 04, 2011

Oct. 4 (Bloomberg) -- India’s central bank may buy bonds for the first time in nine months to cap rising yields as outflows from national savings accounts forced the government to increase debt sales.

The Reserve Bank of India will probably acquire 500 billion rupees ($10.2 billion) of notes, according to Nomura Holdings Inc. and Kotak Mahindra Bank Ltd. Benchmark 10-year yields were steady at 8.54 percent, the highest level since 2008, after the Finance Ministry said last week it would borrow 32 percent more than its 1.67 trillion rupee target in the six months to March. Yields have climbed 60 basis points in 2011, the most in Asia after Vietnam, according to data compiled by Bloomberg.

Finance Minister Pranab Mukherjee is struggling to trim the budget deficit to a targeted four-year low of 4.6 percent of gross domestic product as India’s economy slows. Further deterioration in the government’s finances may “weigh” on the nation’s BBB- debt rating, already the lowest among the world’s largest emerging economies, according to Fitch Ratings.

“The additional borrowing was quite a shock and the RBI will consider buying bonds to support liquidity in the system,” Vivek Rajpal, a fixed-income strategist at Nomura, Japan’s biggest brokerage, said in an interview yesterday. “The end game will be to cap yields.”

Savings Plans

The government will sell 2.2 trillion rupees of bonds in the six months ending March after having raised 2.5 trillion rupees in the first half of the fiscal year, R. Gopalan, secretary at the Department of Economic Affairs, told reporters in New Delhi on Sept. 29.

Individual investors withdrew 61.9 billion rupees between April and August from small-savings deposit plans such as those run by post offices, after adding 238.56 billion rupees in the year-earlier period, official data show. The state-run savings programs offer a return of 8 percent, while State Bank of India, the nation’s biggest lender, offers 9.25 percent interest on one-year deposits, according to its website.

“The government-run savings plans have lost their attractiveness due to lower returns and that’s the reason there is a huge shortfall,” Anoop Verma, a Mumbai-based fixed-income trader at Development Credit Bank Ltd., said in an interview yesterday. “Drying up of financing sources is forcing the government to turn to market borrowings.”

Debt Supply

India’s bonds fell for a sixth straight day yesterday, after the yield on benchmark 10-year debt concluded a fifth quarterly increase on Sept. 29. The Reserve Bank bought 75 billion rupees of government debt in January in auctions as part of a program to purchase 480 billion rupees of securities, according to its website. Alpana Killawala, a spokeswoman for the Reserve Bank, declined to comment on bond repurchases.

“The RBI will have to come back and buy bonds from the open market,” Prasanna Patankar, the Mumbai-based head of fixed-income trading at primary dealer Securities Trading Corp. of India Ltd., said in an interview yesterday. “The supply of bonds is already quite daunting and with more supplies coming, we think the yield on the 10-year bonds will move to as high as 8.65 percent this month.”

The cost of insuring the debt of State Bank of India against default has more than doubled in 2011. Five-year credit- default swaps on the lender, viewed as a proxy for the nation, were at a two-and-a-half-year high of 363 basis points today, according to data provider CMA, which is owned by CME Group Inc. and compiles prices quoted by dealers in privately negotiated markets.

Deficit, Rupee

The swaps pay the buyer face value in exchange for the underlying securities or the cash equivalent should a government or company fail to adhere to its debt agreements.

India’s budget deficit may widen to 5.5 percent of GDP in the year ending March from 4.7 percent in the previous 12 months, Andrew Colquhoun, Hong Kong-based head of Asia-Pacific sovereign ratings at Fitch, said in an interview.

The decision to issue more debt is “within the scope of expectations,” Takahira Ogawa, Singapore-based director of sovereign and international public finance ratings at Standard & Poor’s, said in an e-mail yesterday.

The outlook for the deficit may drive the rupee lower, according to Standard Chartered Plc. The currency weakened for a third day today, dropping 0.2 percent to 49.25 per dollar.

“Investors will definitely be worried about the government missing its deficit target,” Priyanka Kishore, a Mumbai-based currency strategist at Standard Chartered, said in an interview yesterday. “If there are concerns about the rating outlook, it would be negative for the currency.”

Kishore predicts the rupee will drop to 49.80 by March.

‘Much Larger’

India’s bond market can absorb the increase in the borrowing plan, according to Pramerica Asset Managers, a unit of Newark, New Jersey-based Prudential Financial Inc. The economy expanded 7.7 percent in the three months ended June, the least in six quarters, according to government data. The size of the economy has grown 62 percent since 2008 to 73 trillion rupees in the year ended March, according to official data.

“The economy today is much larger than it used to be, say, three years ago,” Mahendra Jajoo, the Mumbai-based head of fixed-income investments at Pramerica Asset, said in an interview yesterday. “There may be some problems, but the system can absorb this kind of borrowing program.”

Higher Yields

The difference in yields between Indian notes due in a decade and similar-maturity U.S. Treasuries was 674 basis points, or 6.74 percentage points, today, the highest since April 1999, according to data compiled by Bloomberg. Bonds of the South Asian nation have returned 3.7 percent so far this year, according to HSBC Holdings Plc., which tracks 10 local- currency debt markets in the region. Indonesian securities earned the most at 14.4 percent.

Investors will show their disapproval of the higher borrowing program by selling Indian debt during the rest of 2011, according to Mumbai-based Yes Bank Ltd.

“There will be pressure on the bond yields due to much larger supply of paper than expected,” Shubhada Rao, the Mumbai-based chief economist at Yes Bank, said in an interview yesterday. “The yield on the 10-year bond may reach 8.6 percent soon.”

--With assistance from Jeanette Rodrigues in Mumbai. Editors: Ven Ram, Arijit Ghosh

To contact the reporter on this story: Kartik Goyal in New Delhi at kgoyal@bloomberg.net

To contact the editor responsible for this story: Sandy Hendry at shendry@bloomberg.net


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