Markets swing to Pakistan-speak

The joint statement by US president Bill Clinton and Pakistani prime minister Nawaz Sharif at the beginning of last week that the "Shimla agreement should be honoured and concrete steps taken to defuse the crisis" led to the belief that the Kargil confrontation was nearing conclusion. Following this, both the currency and bond markets rallied a bit. However, following reports that the intruders are not withdrawing, markets lost the momentum and traced back a large part of the gains. The week endedon a hopeful note as Pakistan's top civil-military body issued an appeal to "militants" to withdraw from the Indian side of the line of control (LoC). This week, markets are likely to be ruled by events on this front.

Rupee volatile

The rupee recovered to 43.25 against the dollar after the joint statement issued in Washington, fell to 43.42 and recovered back to end the week at 43.31. The rupee is expected to continue to swing to border related news and sentiment. Six-month forwards stayed below five per cent through the week, ending at 4.8 per cent. There is still a significant receiving interest among banks. At current levels, forwards are at parity with the interest rate differential between the rupee and dollar markets. Forwards are likely to stay close to current levels.

182-day T-bill yield eases marginally

Cut-off yields of 14-day and 182-day treasury bills were lower at 8.11 per cent and 9.96 per cent, respectively. The 91-day T-bill yield was unchanged at 9.32 per cent, with twoper cent devolvement on RBI.

Interest rate swaps market takes off

The Reserve Bank of India issued the final guidelines for interest rate swaps and forward rate agreements last week. Banks, financial institutions and primary dealers have been permitted to market these products. Corporates can use these for purposes of hedging only.

The inaugural day witnessed a flurry of short maturity interest rate swaps and forward rate agreements as market makers were desperate to record the "opening" deals. Most deals had the overnight MIBOR as the floating benchmark. Mid-rates for three and six months quoted were near 9.50 per cent and 10 per cent, respectively.

Gilts recover

Market sentiment turned up on hopes of early resolution of the Kargil conflict. Bonds at the long end appreciated the most, with the 11.90 per cent 2007 paper appreciating over 30 paise. Though the overall sentiment has improved a bit, it is still not very clear how long the Kargil conflict is going to last. Also, freshissuances are expected to continue to be of long tenor. We recommend a slight increase in exposure to the medium and long maturities, but still maintaining the highest exposure in short tenor securities.

Corporate Paper

Three-month primary P1+ commercial papers (CPs) were placed in the 9.90 per cent-9.95 per cent range. Secondary activity in the one- and two-month categories continued dull, with market participants not expecting any significant upside even though call rates have settled below 8.5 per cent.

Preference for short dated bonds with maturities close to one year have eaten into the demand for CPs. The market for FI paper continued to be bullish. The main gainers were the four- and seven-year segments. We had mentioned in our June 16-30 Debt Markets Update that five-year FI paper issued in March-April 1998 at yields close to 15.30 per cent were facing selling pressure at 12.60 per cent.

With the yield curve declining by 10 basis points across the maturity spectrum, four-year yieldshave declined by 30 basis points to 12.45 per cent-12.50 per cent. The seven-year yield declined by 15 basis points from 13 per cent to 12.85 per cent. We expect a 10 basis point upside in the two - three year category from current levels of 11.80 per cent and 12.20 per cent respectively, with one-year levels unlikely to decline unless the sovereign curve shifts downward.

(For the week ending July 17, 1999)