Thoughts after borrowing calendar

The FY21 second half market borrowing calendar for Gsec, SDl and Tbills was announced yesterday and, for us, it was the best case scenario – though not “too-good-to-be-true” scenario as happened in the past. The key highlights and implications according to us.

GSEC:

·     The G-sec borrowing to end in Jan 21. At the same pace, the last two months of FY can accommodate around 2 lacs of extra borrowing if needed.

·     The 10y belly has lesser issuances. This gives RBI leeway to spread it’s OMO across other tenors – a demand from some segments of market. Thus the shorter tenor bonds could find some support .

·     The 40y segment has increased borrowing – we doubt that Govt would have increased supply without gauging the demand of LIC and other insurances. Thus the shift from 10y to 40y decreases supply to other participants.

·     The FRB supply has not changed. With the bad recent auction cut-offs in FRB, we feel that this bond could be volatile – especially since price is attractive, but demand is muted.

SDL:

·     The SDL borrowing at 2 lac cr. In Q3 is par for course. However that just means that

(i)         Q4 may have to bear brunt of 3 lac cr or more, or/and

(ii)        even in Q3 the states may not stick to the indicative calendar.

·     Some of the “supposedly” better states like Maharashtra have significant borrowing. This indicates pressure on state fiscals and we are quite circumspect about SDLs, with too many unknowns.

T-bill:

·     The T-bill roll-down would bring down the cash balance. The reduced issuances of 6m and 1y (by 3000, cr and 4000 cr) should support the 2y segment bonds.

·     However, strong possibility lies that govt. could come up with CMBs or extra T-bills in Q4 to support it’s cash positions, and many of the Q3 market dynamics could reverse in Q4.

Trading strategy:

1.    Trade contrarian – continue our call

Whilst we mentioned that this was probably the best case scenario, we do not think it drastically changes markets. Why? There is demand-supply mismatch at current supply levels. If the supply levels remain, the mismatch continues as it is. The major market dynamics are (i) RBI conducting OMO purchases when 10y breaches 6.00% and (ii) lack of market interest when yields come close to 5.90%. The same should continue as the RBI sets the cap on yields and markets cap the floors. Thus we believe that playing the range should continue in future as well.

2.    Buy short tenor bonds (2y-5y) – fresh call

The recent uptick in short tenor bond yields was also led due to (i) high inflation, (ii) LTRO unwind, and (iii) crowded trades. From here-on (i) inflation should be muted, (ii) some unwinds in the short tenor has happened, (iii) the long-term T-bill issuances are few, and (iv) the RBI may purchase more of the shorter bonds, since 10y supply is lesser.

Risks to view:

The contrarian trade has risks that RBI may be absent at times, leading to yield spike. Also there is a residual bank demand due to HTM increase – but at what yield remains the question. It is unlikely that the demand would be there below 5.90%, but the risks remain.

A new MPC committee could end up being less dovish that the current one. Again this is not our base line, but if it does happen it could lead to sharp spike in short tenor yields.

Finally geo-political considerations remain heightened, with the Indo-China tensions being major focus – especially with winter setting and supply lines being put in place the risks have only increased.