Equity markets shrug off rate hike blues, bond yields rise

Anup Roy and Nesil Staney

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Mumbai: The short-term interest rate hike by India’s central bank to fight rising inflation did not impact the equity markets even as bond yields rose and the rupee gained marginally against the greenback.

Injecting liquidity: RBI, led by governor Y.V. Reddy, on Wednesday raised the repurchase rate by 25 basis points to 8%. Photograph by Abhijit Bhatlekar/Mint

India’s bellwether Sensex index of the Bombay Stock Exchange gained 0.43%, or 64.88 points, to 15,250.20 on Thursday’s trade, after sliding to 14,747.99 in the morning. The National Stock Exchange’s broader 50-stock S&P CNX Nifty index closed at 4,539.35 points, up 0.35%. The two most interest rate-sensitive sectors—banking and real estate—staged a smart rally before the markets closed.

“The rate hike was already discounted in the markets,” said Lalit Thakkar, director of equity research at city-based Angel Broking Ltd.

The recovery in Indian markets was surprising as all other key Asian markets suffered deep losses on Thursday.

Japan’s Nikkei, China’s Shanghai index, South Korea’s Kospi and Australia ASX lost more than 2% each. The Taiwanese index lost more than 3.3%, while Hong Kong’s Hang Seng was down 1.3%.

“Indian markets had corrected faster than many other markets in the past week,” said the head of equity research at a large foreign brokerage, who did not wish to be named.

The Sensex had lost 9.3% in June till Tuesday.

The yield on the benchmark 10-year bond, however, moved to almost a year-high of 8.38%, a level last seen in mid-June 2007, before closing at 8.32%. The yield and price of a bond move in opposite directions.

The Reserve Bank of India (RBI) on late Wednesday rai-sed the repurchase rate, or the rate at which it injects liquidity in the system, by 25 basis points to 8%. One basis point is a 100th of a percentage point.

The local currency responded to the rate hike by strengthening in early morning trade on Thursday to 42.78/79 a dollar. Strong dollar demand from corporations and oil importers dragged down the rupee, but it still closed at 42.84/85, stronger than its Wednesday’s close of 42.86/87.

Bankers, however, do not see the rupee gaining further. “At the most, we can say the latest rate hike postponed the depreciation,” said the treasury head of a foreign bank, who could not be named because of his company’s media policies.

Theoretically, a hike in interest rate strengthens the local currency as the interest rate gap between the US and India widens, which attracts foreign funds to the local equity markets. But foreign fund flow has almost dried up. and in such a scenario, forex dealers do not expect the rupee to strengthen significantly.

But another treasury head of a public sector bank, who declined to be named, said the rupee should strengthen to 42.20 “once the oil bubble bursts” in about three months.

The trading volume of the 10-year benchmark paper was about Rs2,300 crore, more than 80% of all bonds traded on Thursday. According to bond dealers, the rate hike has cleared the cloud of uncertainty from the system, but if the inflation rate continues to be high and there is ample liquidity, RBI could go for another round of rate hike, or raise banks’ cash reserve ratio.

“We could see bond yields to be steady for sometime and consolidate around this level. The benchmark 10-year yield might remain range bound at around 8.35-8.25% in this month as inflation will be keenly watched,” said Vijay Anand, associate vice-president of money market at Development Credit Bank Ltd.

anup.r@livemint.com