MUMBAI: Indian federal bond yields and swap rates advanced on Thursday, while bank stocks fell, after the Reserve Bank of India left interest rates unchanged and took a more hawkish stance than investors had anticipated.
Though analysts had largely expected the RBI to stay on hold, especially on the eve of the federal budget, markets had not ruled out a surprise cut in the repo rate from its current 8.50 percent level.
At the very least, traders had expected the central bank would lower rates in April, but even that was cast into doubt after the RBI warned on Thursday about inflationary pressures from oil prices, the government's finances and the weaker rupee.
The government's federal budget to be unveiled on Friday, and the amount of spending and borrowing announced, will now be key in setting market expectations about how soon the RBI can afford to cut interest rates to focus on slowing growth.
"The central bank wants to wait and see what the government does on the fiscal management front in the budget tomorrow," said Jagannadham Thunuguntla, head of research at SMC Global Securities in New Delhi.
"The rate cut will come once the RBI becomes comfortable with the fiscal situation as well as the oil prices."
The 10-year benchmark bond yield ended at 8.36 percent, up 6 basis points (bps) from its level before the data was released. It ended at 8.28 percent on Wednesday.
Yields had dropped from the near six-week highs hit only a week ago after the RBI delivered a surprise cut in the cash reserve ratio to inject liquidity into the banking sector.
Markets this week had also began to anticipate the central bank would start lowering rates sooner rather than later after 13 months of raising them.
Some analysts now warn yields could continue to gain should the government announce big borrowing plans on Friday, especially as the expected liquidity injection from the CRR move could reduce bond purchases via open market operations.
A Reuters poll this month indicated analysts expect the government to borrow 5.3 trillion rupees in the fiscal year starting in April.
"The bond market will temporarily bounce to 8.30 percent, and then get sold off. I maintain my projection of the 10-year yield to be around 8.47 percent by March-end," said Ashish Vaidya, head of interest rates at UBS in Mumbai.
"We are likely to see huge supply of bonds, and probably without the OMOs, because liquidity deficit should start getting adequate."
Swaps rates also advanced, with the benchmark five-year swap rate ending at 7.56 percent, up 7 bps from before the data was announced, while the one-year rate rose 13 basis points to 8.18 percent. The rates closed at 7.49 percent and 8.04 percent respectively on Wednesday.
Indian shares fell led by lenders and real estate firms, which tend to be more sensitive to interest rates.
The main 30-share BSE index dropped 1.4 percent to 17,675.85, falling for the first time in five sessions.
The 50-share index lost 1.5 percent, also snapping a run of gains, and ended at 5,380.5.
The rupee also headed lower, influenced by the fall in stock prices, ending at 50.38/39 to the dollar, weaker than Wednesday's close of 49.91/92.
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