Indian bond yields drop

Indian bond yields fell to near three-month lows on Friday after the central bank said it may start cutting interest rates, while the rupee and stocks fell after an early bounce. As widely expected, the Reserve Bank of India kept key interest rates on hold and said its next move was likely to be an easing of monetary policy as risks to economic growth have increased.
The central bank had raised interest rates 13 times since March 2010 to fight inflation, which remains above 9 percent. "Very clearly, the next step from the RBI is likely to be a an easing in the policy stance, " said A. Prasanna, economist at ICICI Securities, a primary dealership in Mumbai.
Benchmark 10-year bond yields fell 10 basis points to 8.40 percent, the lowest since end-September, while five year interest rate swaps dipped by 5 bps to 7.05 percent. The drop in bond yields takes it further below a three-year high of above 9 percent hit in early November, though traders were wary of pushing yields lower due to a spreading crunch in money market liquidity and a swelling fiscal deficit.
This week, the RBI began pumping in more than 1 trillion rupees ($19 billion) a day into the market via its liquidity window, and it said it would conduct an additional liquidity injection facility on Friday, indicating that liquidity conditions were worsening. Adding to bond market woes has been a steady rise in the federal fiscal deficit. With less than four months of 2011/12 remaining, economists say the full-year fiscal gap may be almost one percentage point higher than the budgeted target of 4.6 percent of GDP.