Can RBI’s intervention calm the surging long-end yield gap?

Mumbai: The yield gap between the benchmark 10-year and 40-year government bonds, typically around 30 basis points, has widened sharply since July and stands at over 80 basis points despite state and central governments reducing their long-tenured borrowing. Market participants are now looking to the Reserve Bank to communicate its discomfort with the elevated yields, hoping such intervention will help stem losses at the long end of the curve.

“One way the RBI can pacify the long end yield is to conduct open market operation (OMO) purchases at the far end of the curve. Another way is to cancel a long end auction, or reallocate it to a shorter tenure,” said the treasury head at a large private bank.

Yields on the 40-year bond closed at 7.34% on Thursday, compared with 6.89% at the start of the fiscal year. Since October, despite states borrowing less than the indicative amount, long-tenured yields have risen by about 15 basis points. The benchmark 10-year paper ended at 6.53% on Thursday, Clearing Corporation of India data showed.

Bond yields and prices move in opposite directions. The widened yield gap between the 10- and 40-year paper reflects a moderation in demand for longer-duration securities, especially from insurance companies, as these players are experiencing mark-to-market losses after yields started hardening in July.

Treasury executives said an additional reduction in long-term borrowing could help ease pressure at the far end of the yield curve – a trend briefly seen after the government trimmed long-tenor issuances by 5.5% for its second-half borrowing calendar.

“There is no use cancelling a 7-year paper or conducting OMOs in the 10- to 15-year segment. This will bring down yields for a few hours or a day and then they will go back to higher levels. Another way is to incentivise public sector insurance companies to not cut their borrowing, if not increase it,” said a senior trader from a foreign bank. The RBI called off a seven-year paper auction on November 1, as yields bid in the auction were likely higher than the central bank’s comfort level. This eased the 10-year paper by seven basis points to 6.52%. The RBI also conducted on-screen OMO purchases of ₹12,470 crore in the 10- to 15-year segment in the week ended November 7. The central bank is said to have continued with its OMO purchases in the week of November 14, although the quantum was likely less than the previous week, traders said.