May 21, 2012

India Markets Brief Weekly

Treasury Research Group For private circulation only

Ruchi Singh
ruchi.singh@icicibank.com

Surbhi Ogra
Surbhi.ogra@icicibank.com

Fixed income: Market awaits cues on further OMOs

The week that was The bond market had started the week on a negative note following the higher than expected inflation data print released on Monday. Headline inflation for April 2012 came in at 7.23% YoY, much higher than the market consensus of 6.70% YoY (for details refer to our inflation report Headline inflation witnesses an unexpected increase in April). However, fall in crude oil prices, risk aversion and further OMO announcement (of INR 120 bn) provided some support to the bond market. After four consecutive days of gains in bonds, there was a sell off on Wednesday on speculation that the Central Bank might not continue with bond buyback to ease liquidity. Moreover, towards the end of the week, the bond yields also rose as traders trimmed their positions ahead of the INR 150 bn debt auction on Friday. However, it eased in subsequent trade post the auction results as the auctioned debt was fully subscribed and the cut off yields also came in lower than expected. Additionally, the Central Bank said that it bought back bonds worth INR 111.28 bn under its open market operations, which further supported the bond market. Overall, the 10-year benchmark bond yields eased by around 4 bps to end the week at 8.53%. On the auction front, apart from the INR 150 bn of dated securities, the Central Bank also auctioned T-bills worth INR 150 bn. The cut off yield of the 91 day T-bill set at 8.39% (lower than the 8.44% previous week) while the cut off yield for the 364 day T-bill was set at 8.29% (vs 8.31% two week ago). Liquidity improved marginally last week The systemic liquidity deficit improved last week, with net liquidity injection by the RBI averaging INR 941.87 bn last week as compared to INR 1180.28 bn in the previous week. Liquidity deficit improved last week as it was the second week of the reporting fortnight and banks had already covered their cash reserve requirement (CRR) in the previous week. Systemic liquidity is likely to be a key factor, which will determine the movements in bond yields. The Indian Rupee is likely to remain under pressure in the near term and the RBI will continue to intervene in the foreign exchange market as the domestic currency unit inches closes to the 55 mark. However, we expect the Central Bank to continue with bond buybacks to offset the negative impact of intervention on systemic liquidity. Additionally, we expect it to be tighter this week, as banks will rush to cover their CRR requirements in the first week of the reporting fortnight. Tracking the improvement in liquidity, overnight cash rates also eased to 8.08% last week as compared to 8.24% in the previous week. On the swap front, the 1Y OIS eased by 7 bps to 7.98% and the 5Y OIS eased by 9 bps to 7.44%. Gsec yields to trade in the 8.48 8.58% range Indian bond yields have started the week on a negative tone, as traders remain wary of taking fresh positions ahead of the announcement of details of Fridays bond auction. We expect the Central Bank to announce the issuance of a new 10-year benchmark at this weeks debt auction. The outstanding issuance of the current 10-year benchmark (i.e. 8.79% 2021 bond) is at INR 770 bn, which is much above RBIs comfort rule. Speculation that the Central Bank will introduce a new 10-year benchmark will also weigh on the current paper due to illiquidity premium. Further, uncertainty surrounding further bond buybacks by the RBI will also keep the market cautious. Overall, in absence of any domestic triggers, we expect bond yields to trade range bound in the 8.48-8.58% range. On the auction front, the RBI is scheduled to auction INR 150 bn of debt on Friday. Additionally, the Central Bank will also sell INR 90 bn of 91 day treasury bill and INR 50 bn of 182 day treasury bill on May 23. Moreover, states will also raise INR 73 bn through State Development Loans on May 22.

Please see important disclaimer at the end of this report

India Markets Brief

Forex: Bears prevail as Rupee hits fresh low

The Rupee hit a historic low of 54.91 last week, depreciating by over 10.0% in 2012 till date and nearly 7.0% in the fiscal to date. The previous high of 53.20 has been relegated to a distant second and we might not have even seen the end of the current losing streak. The fall in the Rupee seems over done but until sentiment improves globally or domestic policy mechanism gets more proactive, Rupee might find it difficult to convincingly turn around. Uncertainty prevails as markets prepare for re-elections in Greece After three failed attempts to form the Government, the Greeks are in for a re-election on June 17th in what is being seen as yet again closely contested election between the pro and anti bailout parties. Markets can derive succour from the fact that in the latest polls, Syriza (the torch bearer of the anti-bailout movement in Greece) is trailing the New Democracy by several points. The return of a pro-austerity Government and moderation in the German stance on fiscal consolidation (there has been some softening over the recent weeks) would be positive developments in the global context. G-8 tries to douse concerns but caution remains The G-8 economies stressed that their imperative is to promote growth and jobs and gave verbal backing for Greece to stay in the Euro. However, in the absence of a consensus emerging from within the Eurozone on a Greek ouster and more fundamentally on issues involving the choice between growth and austerity, markets would remain wary. Focus would now be on the meeting of European leaders on Wednesday in which they are likely to discuss ideas for boosting the regions growth. Weak capital inflows weigh on Rupee In the fiscal to date, we have had net FII outflows to the tune of USD 0.5 bn, which is reflective of the wariness within the investor community both with regards to the global climate and issues that are domestic in nature. Meanwhile, direct investment has also moderated from the robust inflows received in Q1 FY2012. Inflows on account of external commercial borrowings and short-term trade credits have also witnessed a decline. Thus weak capital inflows have skewed the demand supply balance in the Dollar-Rupee market resulting in such sharp moves in the currency pair, which are not necessarily backed by an equivalent change in fundamentals. EEFC related Dollar selling to lend support The RBI directive pertaining to EEFC account holders is likely to have an impact on Rupee this week, which would be the end of the fortnight granted by the RBI to convert 50% of the EEFC account balances into Rupees. Thus most of the USD 2.5-3.0 bn that was the expected quantum due for conversion, should be sold this week, which would limit the downside in INR. Easing crude prices an overlooked positive Given all the noise around global uncertainties exacerbated by possible Greece exit, continued concerns with regards to domestic policy and weak fundamentals, the recent fall in crude prices has failed to garner much interest. Indias crude basket has come off its highs of USD 125 bn seen in March and is currently around USD 106/bbl. Given that decline in crude prices by USD 1 leads to nearly USD 1 bn decline in Indias oil import bill (this impact is net of exports), we have seen our oil import burden come off by over USD 20 bn, which is a significant moderation. Outlook-USDINR to stay in the range of 54.20 55.00 The entire last week was interspersed with rumours of possible RBI intervention in the spot market. But its unlikely to have been of a significant magnitude. However, market participants remain wary of possible RBI action. The RBI Deputy Governor reiterated this last week saying that the Central Bank will not hesitate to take more steps to stem the falls in Rupee if needed. Meanwhile, on the global front Greece would continue to remain in focus. The ongoing European banking sector review by Moodys could also be a potential trigger for the market. Only last week Moodys downgraded 16 Spanish banks. This was followed by Fitch downgrading 5 Greek banks to CCC. Amidst all this uncertainty and lack of progress on the policy front domestically, we expect USDINR to trade in the range of 54.20 - 55.00 this week.

India Markets Brief

Snapshot of Macro Indicators Latest Unit Period reading % YoY Q3FY12 6.1 % YoY Q3FY12 2.7 % YoY Q3FY12 2.6 % YoY Q3FY12 8.9 % YoY Mar-12 -3.5 Index Mar-12 54.9 % YoY Mar-12 8.7 % YoY Mar-12 -5.7 % YoY Mar-12 24.3 USD bn Mar-12 -13.9 USD bn Q3 FY12 -19.4 USD bn Q3 FY12 8.0 USD bn Q3 FY12 -12.8 % Feb-12 94.6 Previous reading 6.9 3.2 3.2 9.3 4.1 54.7 7.6 4.2 24.2 -16.4 -16.9 18.4 0.3 68.6

Variables Real GDP Agriculture Industry Services IIP (new index) PMI CPI inflation Exports Imports Trade balance Current Account Capital Account BoP Fiscal Deficit as % of budgeted deficit

Policy Rates Repo rate Reverse Repo CRR * Fiscal deficit as a % of GDP

Unit % % %

Period 21-May-12 21-May-12 21-May-12

Latest 8.00 7.00 4.75

FY11 8.0 6.6 6.9 8.9 10.3 12.30 36.2 28.3 -9.7 -44.3 59.8 13.1 4.7 Cumulative change in Previous FYTD (bps) 8.50 50 7.50 50 5.50 0

FY10 8.5 1.0 8.8 10.6 2.8 9.00 -0.9 4.9 -9.1 -38.0 53.6 13.4 6.7 Cumulative change in FY11 (bps) 250 300 25

Factors

WPI inflation (% YoY) Reserve Money (% YoY) Money Supply (% YoY) Credit growth (% YoY) Deposit growth (% YoY) SLR investment outstanding (as % of NDTL)** 4-May-12 29.0 28.9 29.0 G-sec turnover (weekly, INR bn) 17-May-12 823 945 OMO (weekly, INR bn) 31-Jan-12 111 0 Average weekly LAF balances (INR bn) 21-May-12 -942 -1180 -1031 US 10Y yield (%) 18-May-12 1.72 1.70 1.94 Ways and Means Advances (INR bn) 4-Mar-12 0 0 * current values in INR bn, ** adjusted for LAF Key Triggers for Rupee Market Factor Unit Current Last week Last month VIX Index 25.10 19.89 18.64 Net Portfolio Inflows* USD mn -48.4 167.8 -727.7 Indian Crude Basket USD/bbl 107.69 108.79 116.80 RBI REER (36-cty 2004-05)# 93.40 NA 95.78 Foreign Reserves** USD bn 293.2 295.4 294.6 1Y Implied Vols % 10.70 10.00 9.50 Risk Reversals (3M) % 1.55 1.50 1.40 Forward Premia (1M) INR 0.34 0.11 0.34 NDF Arbitrage (1M) INR -0.07 0.03 0.05 Correlation with Yen -0.12 -0.13 -0.10 * Current-Wednesday, Weekly figures-Monday-Wednesday # The current value is for April 2012 ** As on May 11, 2012

Key Triggers for Fixed Income Market Latest Previous Period reading reading FYTD (avg) Apr-11 7.23 6.89 11-May-12 5.9 5.6 6.7 4-May-12 13.4 13.0 13.4 4-May-12 17.3 17.5 17.8 4-May-12 13.9 13.7 13.7

(avg) 22.9 16.0 21.0 15.4 28.8 102.0 -470 3.13 -

FY11 (agg/ end) 17.2 16.0 21.4 15.9 28.0 672.4 -1060 3.47

1-Jan-12 22.97 12257.5 106.96 94.57 296.7 10.50 2.25 0.55 0.15 -0.24

1-Apr-12 15.64 -549.5 122.06 93.40 294.4 9.80 1.60 0.41 -0.07 -0.07

India Markets Brief

Yield curve
Yield curve 21 May 15 May

Deposit and credit growth

30 25 20 15 10 5 Jul-09 Jul-10 May-10 May-11 Jul-11 1080d 1800d 2520d 3240d 3960d 4680d 5400d 8640d May-12 300 250 200 150 100 50 0 -50 -100 Jul-10 May-10 May-11 Jul-11 May-12 Mar-10 Mar-11 Nov-09 Nov-10 Nov-11 Mar-12 Sep-10 Sep-11 Jan-10 Jan-11 Jan-12 Mar-10 Mar-11 Nov-09 Nov-10 Nov-11 Mar-12 Sep-09 Sep-10 Sep-11 Jan-10 Jan-11 360d Jan-12

Deposit

Credit

9.0 8.8 8.6 8.4 8.2 8.0 90d

OIS spread
(%) 9 8 7 6 5 4 3 Sep-09 Sep-10 Sep-11 Jul-10 Jan-10 Jan-11 Jul-11 Mar-10 Mar-11 Jan-12 May-10 May-11 Mar-12 May-12 Nov-09 Nov-10 Nov-11 Spread 5Y-1Y (RHS) 1Y OIS 5 Y OIS (RHS) 250 200 150 100 50 0 -50 -100

MIFOR spread
9 8 7 6 5 4 3 2 MIFOR (%) - 1Y 5Y Spread 5Y-1Y (bps, RHS)

LAF and call rates Call rate (%) Net LAF (INR bn) (RHS) 1000 500 0 -500 -1000 -1500 -2000 10 9 8 7 6 5 4 3

Systemic liquidity MSS outstanding LAF balances Centre's surplus with RBI (INR bn)

Sep-10

Apr-11

Sep-11

Jan-11

Mar-11

Dec-10

Dec-11

Jun-11

Jan-12

Oct-10

Oct-11

Jul-11

2000 1500 1000 500 0 -500 -1000 -1500 Jul-09

Apr-10

Apr-11

Oct-09

Jan-10

Oct-10

Jan-11

Oct-11

Market rates
Today INBMK 3M 1Y 10Y OIS 1Y 5Y 10Y MIFOR 1Y 5Y 10Y 8.39 8.14 8.51 7.98 7.45 7.48 5.85 6.00 6.00 Last week 8.38 8.09 8.65 8.07 7.57 7.59 6.75 6.10 6.15 Last month 8.63 8.23 8.48 7.97 7.52 7.61 6.45 6.40 6.40 Last year 8.00 8.10 8.26 7.72 8.24 8.32 7.95 7.00 7.40

Issuances
Central government borrowings in FY13 (INR bn) Gross market borrowing (dated securities) - Budgeted 5700 - Completed 640 Net market borrowing (dated securities) - Budgeted 4800 - Completed 371

Memo items:

SDL issuances OMO purchases MSS outstanding

Auction Results
Notified Amount Cut-off amount accepted (INR yield (%) (INR bn) bn) Dated security auction 40 40 8.4388 70 70 8.5341 20 20 8.8200 20 20 8.9246 Cut-off yield in last auction (%) 8.5373 8.7179 8.9185 8.9926 Change in cut off yield (bps) -9.8 -18.4 -9.8 -6.8

Date of auction 18-May-12 18-May-12 18-May-12 18-May-12

Security 8.19% 9.15% 8.97% 8.83% GS GS GS GS 2020 2024 2030 2041

Date of last auction 27-Apr-12 27-Apr-12 27-Apr-12 27-Apr-12

Jan-12
0 0 0

Jul-10

Jul-11

India Markets Brief

VIX Index
VIX Index 50 40 30 20 10 Feb-10 Feb-11 Nov-09 Nov-10 Aug-09 Aug-10 May-09 May-10 May-11 Aug-11 Nov-11 Feb-12 May-12

36 country REER (2004-05)

(USD bn) RBI intervention REER (RHS) (36-country, base 2004-05)

20 10 0 -10 -20 Oct-08 Oct-09 Oct-10 Apr-08 Apr-09 Apr-10 Apr-11 Oct-11 Apr-12
Apr-12

110 105 100 95 90

FII flows
FII inflows 900 500 100 -300 -700 11Jan 14Mar 4Apr 25Apr 1Feb 21Dec 22Feb USD/INR (RHS) 54 52 50 48 16May

Foreign Reserves
(USD bn) 330 310 290 270 Sep11 Jul11 Nov11 Jan12 May11 May12
5 year 78.91 1.3900 1.6855 93.45 1.0484 0.7281 0.9063 1.0361 45.73 1.38 6.81 31.35 1129 1.82 28.69

Foreign Reserves

1Y implied vols
USDINR 1Y Vols 14 12 10 8 Sep-11 Jun-11 Feb-12 Jul-11 Jan-12 Apr-11 Aug-11 Nov-11 May-11 Apr-12 Mar-12 May-12 Oct-11 Dec-11

NDF Arbitrage (1M)

Arbitrage (1M NDF- 1M onshore) 0.7 0.5 0.3 0.1 -0.1 -0.3 Sep-11 Sep-11 Jun-11 Aug-11 May-11 Nov-11 Feb-12 Jul-11 Apr-11 Jan-12 Mar-12 May-12 Oct-11 Dec-11

Cross-currency rates
Move over the last Currencies Current level 81.15 1.2769 1.5815 79.32 1.0198 0.7576 0.9848 0.9407 54.83 1.27 6.33 29.57 1169 2.02 31.22 Last week 80.26 1.2917 1.6069 79.93 1.0005 0.7827 1.0020 0.9299 53.64 1.25 6.31 29.40 1147 1.97 30.14 Week(%) 1.28 -1.0606 -1.5682 -1.14 2.1689 -3.3857 -1.7565 1.0539 1.47 1.78 0.28 0.84 2.28 2.91 3.85 Month(%) 2.21 -2.6137 -1.2857 -2.76 3.1275 -7.3171 -4.9715 2.6097 5.11 1.94 0.40 0.25 3.03 7.73 6.03 (%) from 1st Jan 2010 2.86 -4.5129 1.3131 -2.59 2.4248 -3.0761 -3.8014 0.4812 21.74 -0.64 -4.22 1.62 4.15 21.82 2.51 Average level 2011 79.72 1.3093 1.5804 79.65 1.0025 0.8088 1.0407 0.9221 51.26 1.26 6.31 29.62 1136 1.82 30.20 2010 81.19 1.3272 1.5459 87.76 1.0305 0.7219 0.9204 1.0427 45.73 1.36 6.77 31.45 1157 1.76 30.37

Developed Countries
DXY Euro British Pound Japanese Yen Canadian Dollar New Zealand Dollar Australian Dollar Swiss Franc

Emerging Markets
Indian Rupee Singapore Dollar Chinese Yuan Taiwanese Dollar Korean Won Brazilian Real Russian Ruble

Mar12

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