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Inflation-indexed bonds subscribed fully in RBI auction

Inflation index bonds were fully subscribed in RBI's auction on Tuesday. The effective interest rate comes around 8 percent. Largest institutions and primary dealers participated in the auction.

June 04, 2013 / 08:33 PM IST
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Moneycontrol Bureau 

Institutional investors fully subscribed the first tranche of inflation indexed bonds (IIBs) worth Rs 1,000 crore auctioned by the Reserve Bank of India (RBI) on Tuesday. The central bank set a real yield at 1.44 percent for those 10-year government securities maturing in 2023. 

With a real yield at 1.44 percent, the coupon rate will be a jot above 8 percent. Those bonds are linked to the wholesale price index (WPI) based calculations. RBI had earlier mentioned that the monthly final WPI would be used with a lag of four months. Hence, this auction was connected to January WPI at 6.62 percent. Hence, the effective interest rate would be at 8.06 percent.

"The real yield is attractive enough," Moses Harding, head of asset liability committee and economic research at IndusInd Bank told

"Market was expecting the yield in the broader range of 1.3 to 2 percent. IIBs have good demand in the market. All primary dealers and institution have shown interest to buy those.  At a later stage, they will sell them at a profit (as and when the yield falls)," he said.

Successful bidders now have to make payments on June 5. These bonds are aimed at curbing investment in gold by generating inflation adjusted returns on investment. Earlier, the government had announced plans to issue IIBs worth Rs 12,000-15,000 crore this financial year. The maturity period will be 10 years for all such securities.

Also read: RBI curbs gold import, extends restrictions beyond banks

When bond yields fall, prices go up. There is an inverse relation between bond yields and prices.
However, retail investors could not participate in the auction. The government had earmarked 20 percent (Rs 200 crore) of bond sales for non-competitive bidders including retail and select institutional investors (like non-banking finance companies and others). The rest 80 percent is for large institutions, which will be engaged in the bidding process.

Non-competitive bidders can buy those bonds at the notified cut-off price while institutions have to bid higher price over and above that in a particular auction. Currently, non-competitive bidders can buy government securities to the tune of 5 percent of notified amount.

This is how IIBs work:

For example, a Rs 100 bond carries a coupon rate of 8 percent. If annual inflation is pegged at 10%, the face value of the bond will increase to Rs.110. At the same time, the interest payment will also increase to 8.8 percent, providing investors protection against inflation on principal and interest both.

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