Wednesday, September 15, 2010 10:46 Hrs IST

We expect 3M Bank CD yield to touch 7.50% pa and 12M Bank CD yield to touch 8.00% in the near term

Debt Outlook, DSP BlackRock Mutual Fund

Macro-economic Review

Overview

• The Benchmark 10 Yr government bond yield moved up from 7.82% pa in the beginning of the month to 7.95% pa as of August 31, 2010 on the back of tight liquidity conditions and heavy supply of government bonds. It appears that government bonds are in the oversold territory as the market participants have been selling the 10 Yr government bond in anticipation of a new 10 Yr government bond being introduced in the near future. The yield difference between the Indian and the U.S. 10-yr benchmark bond is at close to 10 year high levels.

• Money market yields also rose sharply on account of the prevailing tight liquidity conditions and supply pressure. 3M Bank CD yield has moved from 6.70% pa to 7.07% pa during the month while the 12M Bank CD yield has moved from approx. 7.45% pa to 7.88% pa during the same period. However, spread between 3M Bank CDs and 3M T-Bills has narrowed to 92 basis points.

• 10Y AAA PSU Bond moved from 8.83% pa in the beginning of the month to 8.78% pa at the end of the month due to better liquidity conditions and a slackening in demand from Institutions.

• Liquidity as measured by the bids for repo/reverse repo was easier with bids for reverse repo averaging INR 10,000 crore.

Outlook

• Government bond yields have moved up sharply in the current month and are now close to 8% pa on account of overselling. We believe moderation in inflation as well as IP growth, in the medium term, along with declining supply of government bonds in the 2nd half should cap upward movement of government bond yields.

• Though money market yields are already high, prevailing tight liquidity conditions, further rate hikes and steady demand for credit could continue to exert upward pressure. We expect 3M Bank CD yield to touch 7.50% pa and 12M Bank CD yield to touch 8.00% in the near term.