India IRS Review: Inch lower tracking a fall in US yields, oil prices

India IRS Review: Inch lower tracking a fall in US yields, oil prices

Informist, Wednesday, Oct 27, 2021


By Nikhil Patwardhan


MUMBAI – Overnight indexed swap rates edged lower because dealers unwound their fixed paid positions tracking an intraday fall in US Treasury yields and crude oil prices, dealers said.


However, trade volumes across the board were muted as dealers refrained from placing large bets post the recent volatility, especially amid uncertainty over the trajectory of interest rates in the near term, dealers said.


The one-year rate ended at 4.27% against 4.31% on Tuesday, while the five-year swap rate ended at 5.57% against the previous close of 5.64%.

The uncertainty was mainly because the central bank has been setting cutoff rates at its variable rate reverse repo operations. The high cutoff rates set by the central bank are interpreted by the market as an attempt to nudge short-term rates higher.


At its 12-day variable rate reverse repo auction last week, the central bank set the cutoff at the highest possible rate of 3.99%. This was the fourth time since September that the RBI has set the cutoff at 3.99%. The cutoffs initially were sharply higher than the weighted average rates and higher than what the market had expected, which had prompted many dealers to believe that the central bank is hinting at tightening liquidity and eventually normalising its ultra-accommodative monetary policy.


On Tuesday, at the seven-day variable rate reverse repo auction worth 2 trln rupees also, the central bank set the cutoff at the highest possible rate of 3.99%.


The central bank has also been hiking the quantum of its variable rate reverse repo operations since August in phases, and by December the quantum will be 6 trln rupees according to RBI Governor Shaktikanta Das's monetary policy review address earlier this month.


Moreover, a banking source told Informist today that the RBI is considering announcing a 28-day variable rate reverse repo this week to expand its bouquet of liquidity management instruments.


"As mentioned by Governor Shaktikanta Das in its (RBI's) policy statement, the introduction of the 28-day VRRR is on the anvil. The announcement may come as soon as today," the source said.


"While the (RBI) officials at various media interactions are sounding dovish and are suggesting that they will prolong their support for longer, the RBI's actions are something that are puzzling," said a dealer with a foreign bank.


"If they are constantly keeping high cutoff rates at VRRRs (variable rate reverse repo) and if they are going to introduce a longer-tenure VRRR, then all this is suggesting a deliberate attempt to push up MIBOR fixings. I believe the one-year rate has more room to go higher, but unless we hear something directly from RBI it may stay in a band of 4.25-4.35%."


The RBI announced after market hours today that it will conduct a 500-bln-rupee variable rate reverse repo operation on Tuesday.


Moreover, the treasury bill cutoffs have risen significantly since the October policy address, which suggests that the market is demanding higher yields considering that the central bank is ramping up its liquidity management operations.


The RBI set a cutoff rate of 4.04% on the 364-day T-bill today, 15 basis points higher than the cutoff the central bank had set in the first week of October, just before the policy. The one-year OIS rate has gone up 24 bps since then.


The fall in swap rates maturing in the one-month to three-year segments was therefore limited, as these rates are more prone to changes in the existing banking system liquidity.


However, the five-year OIS rate, which had been at multi-year highs, slumped tracking a sharp intraday fall in crude oil prices and US Treasury yields, dealers said. Traders who had heavily paid fixed rates in the five-year OIS rate over the last two weeks due to a sharp surge in crude oil prices and US Treasury yields, unwound their fixed paid positions tracking the fall in oil prices and US Treasury yields, dealers said.


Crude oil prices eased from their seven-year highs today. The Brent crude oil futures contract for December delivery snapped a three-day gaining steak and was down more than $1 today. The contract had topped the $86 a barrel mark on Tuesday, a level that was acting as a key resistance for the contract, to settle at $86.40 a barrel. However, today it was last at $85.20 a barrel.


Typically, a fall in crude oil prices reduces upside risks to inflation in India and provides more room for the Reserve Bank of India to prolong its monetary policy accommodation.


The 10-year US Treasury yield, meanwhile, after having stayed above the psychologically-crucial mark of 1.60% for the six straight sessions, eased below the level intraday today and was last at 1.59%. The yield had settled at 1.63% on Tuesday.


A fall in US Treasury yields widens the interest rate differential between the safe-haven asset and emerging market debt, making the latter more appealing for foreign investors.


Dealers expect the five-year rate to remain in a thin band in the near term as most see crude oil prices and US Treasury yields stabilising at current levels. Dealers are of the opinion that the US Treasury yields would only witness sharp movements after the outcome of the US Federal Open Market Committee's meeting scheduled Nov 2-3.


The meeting attains significance as US Federal Reserve Chair Jerome Powell said in a virtual appearance last week that elevated US inflation readings were likely to last into next year, and the central bank was alert to the risk that consumers would start expecting higher prices, which could prompt them to demand higher wages and lock in longer-lasting inflation. He also said it was "time to taper" the Fed's $120-bln monthly asset purchases.



Swap rates may open steady on Thursday due to lack of significant domestic cues. However, short-term swap rates may witness unwinding of received positions as traders look to build fresh paid positions on the view that short-term money rates may gradually inch higher.


However, after the recent volatility, traders may prefer to remain on the sidelines and look for cues on interest rates in the near term before building fresh positions.


Any sharp movement in US Treasury yields and crude oil prices overnight might also lend cues at open.


The swap rate in the one-year segment is seen at 4.15-4.40%, and in the five-year at 5.55-5.75%.



At 1530 IST


1-year OIS



2-year OIS



5-year OIS



2-year MIFOR



5-year MIFOR





US$1 = 75.02 rupees

IST, or Indian Standard Time, is five-and-a-half hours ahead of GMT


Edited by Snigdha Kuttikat


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