Context:
The Reserve Bank of India (RBI)‘s announcement of a USD- INR buysell swap auction worth 5 billion for a six month tenor has significantly impacted both the foreign exchange (FX) and bond markets Heres a breakdown of the major movements and market reactions
Impact on Forward Premiums
- Decline in Forward Premiums
- The forward premia saw one month USD-INR premia falling by a sharp 35 bps.
- One year premia declined by a smaller 10 bps bringing them down to 219.
- The fall in premia highlights adjustments from the trading position to the prospect of liquidity effects created by the policy moves so a shift in the expectations of markets could be expected to occur after an auction of swap.
- Market adjustment
- The anticipated liquidity injection was responded to by market participants through a readjustment in forward contract positions indicating anticipation of liquidity easing in the system.
Spot Market Activity
- Rupee Depreciation
- The Indian rupee depreciated by 0.2 weakened to 86.53 against the US dollar.
- This decline was due to a general global risk off sentiment with the resurfacing of concerns on trade tariffs during the tenure of US President Donald Trump
- The rupee as with most Asian currencies felt the brunt of this sentiment which also heavily impacted emerging market assets.
- Global Sentiment
- The overall risk off sentiment due to trade related jitters, complemented by other geopolitical factors contributed to the weakening rupee. This made the investors cautious and thereby preferred safer assets and step away from other riskier currencies of emerging economies like the Indian rupee.
- Spot Market Closing
- The rupee had settled at 86.34 per dollar and its subsequent weakening was in line with the broader global economic uncertainty.
Bond Market Reaction
- Bond Yield Softening
- The 10year benchmark bond yield softened by 6 bps early in the day initially reflecting positive market sentiment due to the RBIs liquidity support.
- However, the yield ultimately ended 1 basis point bps higher closing at 689. This was largely due to profit taking by state owned banks that sold bonds at a profi.t
- Liquidity Infusion Impact
- The RBIs liquidity infusion measures which were aimed at easing tight liquidity conditions in the market initially helped soften bond yields.
- Profit Taking by Traders
- Traders and banks began selling bonds as prices had moved up to levels of 662 to 665 in bond yields, where many had priced in expectations of a 50basis point rate cut.
