Bond market yield curve inversion indicates tight liquidity

Bonds

The Indian debt market saw a yield curve inversion between 182-day Treasury Bills and 10-year government securities on January 17, which money market experts attributed to tight liquidity conditions in the banking system.

The cut-off yield on 182-day Treasury Bills was set at 7.1701 percent on January 17, which was marginally higher than the yield of 7.1588 percent on the 10-year benchmark bond as of 3.22 PM on January 17.

In bond market parlance, yield curve inversion means short-term bonds trading at a higher yield than longer-term bonds. Yield inversion usually signals an upcoming recession, but here it is signaling tighter liquidity conditions.

“The inversion in yield indicates the tight liquidity,” said Mataprasad Pandey, Vice President, of Arete Capital Service

Adding to this, Umesh Kumar Tulsyan, managing director of Sovereign Global Markets, a New Delhi-based fund house is purely because of liquidity conditions and shows the pressure in the short-term debt market.

The bond market, last year too, witnessed a yield curve inversion between short-term and long-term government securities. At that time, one-year bond yield traded marginally above the 10-year bonds.

Liquidity conditions in the banking system turned tight in the last few months, which pushed short-term rates higher in the market.

On the other hand, the announcement of the Indian bond inclusion in the global bond index by JP Morgan has supported long-term government securities yield, especially 10-year bonds.

“The higher 182-day T-Bill yield reflects tight liquidity conditions as overnight rates remain near the marginal standing facility. The 10-year yield is getting the benefit of upcoming Index inclusion of India in JP Morgan EM bond index,” said Gaura Sengupta, an economist at, IDFC First Bank.

To support tight liquidity, the central bank conducted various variable rate repo auctions, but that too did not help. Currently, the liquidity in the banking system is estimated to be in deficit of around Rs 1.94 lakh crore.

Money market experts expect deficit liquidity in the banking system will widen after the goods and services tax (GST) outflows scheduled on January 20 and this will again put pressure on the short-term yield.

Some experts believe that the central bank may announce another variable rate repo auction to support liquidity conditions.