MUMBAI: Indian bonds yields rose slightly on Thursday as doubts emerge about whether the central bank will cut interest rates next week, though pricing still suggests markets are positioned for a potential surprise.
The market rhetoric in recent days has been overwhelmingly of a Reserve Bank of India likely to keep interest rates on hold on Tuesday, with a Reuters poll showing 19 out of 20 analysts expect that outcome.
However, the one-month overnight indexed swap rate closed at 7.86 percent, below the repo rate of 8 percent, which some traders say reflects expectations for rate cut, though the gauge has also been impacted by the recent easing in liquidity tightness.
"Market is positioned for a rate cut. If there is no cut, yields will harden by 7-10 bps. If there is a cut, expectations of further rate cuts will increase and bonds will rally hard. 8 percent on the 10-year may be broken," said Nagaraj Kulkarni, a fixed income strategist with Standard Chartered Bank.
The benchmark 10-year bond yield closed at 8.11 percent, up 1 basis point above its previous close.
Total volume on the central bank's electronic trading platform was at a moderate 155.45 billion rupees ($2.8 billion).
RBI governor Duvvuri Subbarao has warned repeatedly of inflationary pressures, while lower-than-expected rainfalls during the monsoon season threaten to raise food prices.
However, contrarians argue the RBI will also take into account core inflation that in June stayed steady at 4.85 percent, below the central bank's target of around 5 percent.
Slowing economic growth will also become a priority for the central bank at some point, these contrarians have argued.
Traders are shifting their focus to Friday's debt sale of 150 billion rupees of bonds on Friday, including 60 billion rupees of the benchmark paper.
"Tomorrow's auction demand is likely to be subdued with the policy likely to be in focus. Cut-off yields may be above market levels," said Anuj Tagra, a fixed income dealer with state-run Union Bank of India.
Bond yields could also be impacted by oil prices, which dropped below $104 a barrel on Thursday as a stronger dollar weighed and disappointing corporate earnings contributed to a gloomy outlook for demand growth.
Global risk sentiment could also influence trading.
The rupee rallied in late trade, tracking strong gains in the euro and other risk assets after European Central Bank President Mario Draghi pledged to do whatever necessary to contain the euro zone debt crisis.
The benchmark 5-year OIS rate closed up 2 bps at 6.96 percent while the 1-year rate closed steady at 7.64 percent.
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