Foreign Investments In Shorter Maturities Banned
- Move To Correct Distortion In Yield Curve
Central Bank of Sri Lanka (CBSL) implemented new regulations on Friday, limiting foreign investments on new issues of Treasury (T) Bonds to those which are of tenures of five years and above only, a market source told this newspaper.
This is to correct the distortion in the yield curve, where T Bonds and Bills of shorter tenures are commanding yields that are greater than those of a longer tenure, he said.
For instance T Bonds maturing on 2018 are commanding yields of 10.6%, whereas T Bonds and Bills maturing next year were commanding yields that were 0.3 percentage points more at 10.90%, the source said.
In the absence of foreign investments in the shorter tenures because of this ruling, it’s likely that those yields may now go up due to lack of demand. Further, restricting foreign investments on T Bonds of tenures of more than five years and above, ie of 2018 maturities and beyond, may also help to bring down the Government of Sri Lanka’s (GoSL’s) long term borrowing costs.
Currently foreigners are allowed to invest up to 12.5% of the outstanding amounts in T Bills and Bonds, with those having had been almost or fully subscribed currently due to the attractive yields (interest rates) offered compared to those in the developed world where deposit rates are hovering at the zero percent levels.
The source further said that trading in Government securities were subdued on Friday on the back of thin volumes compared with high interest shown by investors in the prior days last week.
However on the previous day Thursday, with expectation of further monetary policy easing, yields of T Bills and T Bonds continued to fall sharply in secondary market trading, he said.
These falls were more pronounced in the “longer tenure” T Bonds where they were trading below the one year T Bill yield fetched at Wednesday’s weekly T Bill auction, he said.
Yields of T Bonds of 2017 and 2018 maturities fell by between 50-60 basis points (bps) over that of the previous day’s close to be trading at the 10.70% and 10.60/70% in two way quotes respectively on Thursday, the source said.
Meanwhile the previous day Wednesday’s T Bill auction saw the one year maturity (364 day) fetching a weighted average yield (WAY) of 11.69%, down 31 bps week on week (WoW), but still higher by 104 bps over the yield fetched for 2018 maturities at Thursday’s trading.
An indication of further monetary policy easing made by CBSL Governor Ajith Nivard Cabraal at his Wednesday’s speech on “Monetary & Financial Sector Policies For 2013 & Beyond” is that which spurred Thursday’s rapid decline, he said.
Last month CBSL cut its policy rates by 25 bps in order to spur growth which it said fell to 6.5% last year, from the previous year’s 8.3%. CBSL targets a 7.5% growth rate this year.
The lower tenures, ie the 2014 and 2015 maturities saw their yields fall by 30 bps to be quoted in the 10.90/11.00% range in two way quotes on Thursday and that of the 2016 tenure fell by 40 bps to 11%. The 2014/2015 tenures were being quoted at 10.90/11.00% in two way quotes, still higher by 30 bps over that of the 2018 maturity which was being quoted at the 10.60/70% level in two way quotes* on Thursday.
Generally longer the tenure higher the yield due to perceived risks involved.
With inflation at 9.2% (ie the year on year (YoY) change in the Colombo Consumers’ Price Index (CCPI) as measured by the state controlled Census & Statistics Department (CSD) for last month) and the market being illiquid for the 6th consecutive day on Friday, such conditions are generally conducive for a rate hike than for a rate decline.
Extract of a note made public by CBSL on Wednesday said, “Further relaxation of monetary policy may be warranted if inflation and inflation expectations ease, economic growth remains below potential, aggregate demand is low and monetary and credit expansion take place at lower rates than projected.
Tightening of monetary policy may be considered if demand driven inflation and adverse inflation expectations build up, signs of economic overheating occur, aggregate demand expands at a high rate and excessive monetary and credit expansion take place.”
CBSL targets bank credit growth to the private sector to increase by 18.5% YoY this year.
However that may be the market on a net basis was short by Rs.11,547 million on Friday. Additionally CBSL held a 30 day term reverse repo auction for Rs 10,000 million with settlement, tomorrow. Meanwhile the previous day Thursday, the market on a net basis was short by Rs. 3,868 million. This shortfall was despite the fact that a sum of Rs. 12.5 billion came into the market on that day due to the settlement of a term reverse repo auction held on Wednesday.
Thursday’s shortfall also comes in the backdrop of the market being short on four consecutive market days previously. On a net basis it was short by Rs. 2,617 million on December 28; Rs. 7,564 million on December 31; Rs. 6,398 million on January 1 and by Rs. 13,882 million on January 2. CBSL met these shortfalls through its overnight (o/n) reverse repo facilities.
And, as if as a reaction to Thursday’s shortfall, market repo rates that is the rate at which the market lends to each other on an o/n basis after taking risk free T Bills as collateral, increased by seven bps over its previous day’s weighted average to 9.04% and held on to those levels on Friday. Meanwhile call money transactions, ie the interest charged on interbank transactions on an o/n basis too increased by one bp to 9.84% on Thursday before declining to 9.82% on Friday. “CBSL’s monetary policies are not solely governed by economic terms, but also by matters political,” a banker explaining the rationale behind these types of scenarios told this newspaper on Wednesday.He made these comments on the basis that in an environment of illiquidity and near double digit inflation**, circumstances which are more conducive to rate hikes, whereas CBSL was however acting to the contrary by adopting a loose monetary policy stance.
Last month CBSL cut its policy rates by 25 bps.
CBSL is targeting a 7.5% growth rate this year, up by one percentage point over the 6.5% GDP growth achieved by the island last year according to its own estimates.
“The fact that CBSL has brought down its T Bill holdings by nearly Rs. 50 billion in a month (see connected story found on page 33), also gives it room to play about by that amount, ie by resubscribing to the same in the event it wants to control rates, by buying T Bills at administered low interest rates, lower than that which is demanded by the market and lending printed money to the Treasury in return,” the source said.
Issuing/reissuing of T Bills and T Bonds to the market is one way that the government fulfils its borrowing requirements.
“We shall control rates by adopting a loose monetary policy stance,” A CBSL source meanwhile said.
The market has factored in that possibility, the market source added. That’s why T Bill yields declined sharply at Wednesday’s weekly T Bill auction, he said. T Bills of 91 (three months), 182 (six months) and 364 day (one year) tenures fell by nine, 33 and 31 bps to 9.91%, 10.99% and 11.38% respectively at that auction.
Yields of T Bills and Bonds on a rule of thumb fell by between 30-35 bps across all tenures over that of the previous day’s (Tuesday’s) closing, he said. The yield of a T Bill maturing on 1.4.14. fell by 35 bps, from 12.60% to 12.25% on Wednesday, the source added.
Similarly yields of T Bonds maturing on 2018 fell by 41 bps, from 11.66% to 11.25%, to be trading lower than the one year T Bill yield fetched at Wednesday’s auction, he said.Generally longer the tenure, higher the yield due to perceived risks and shorter the tenure lower the yield due to the possibility of that risk factor being minimized. But in the aforesaid example the contrary has had taken place.
Meanwhile the market was short for the fourth consecutive market day on Wednesday, this time by a figure of Rs. 13,882 million on a net basis. On the previous day Tuesday it was short by Rs. 6,398 million on a net basis; at the beginning of the week on Monday, by Rs. 7,564 million on a net basis and on Friday December 28, by Rs. 2,617 million on a net basis.
CBSL met these shortfalls through its reverse repo facilities.
Generally a market environment where liquidity is short is conducive to a rate rise than for a rate decline. This is in order to attract funds to meet this liquidity shortfall by offering higher rates.
CBSL during these past few weeks have been meeting this liquidity shortfall through its reverse repo window. “And numbers of under Rs. 20 billion appear to be within its control. It may have been a different story if the liquidity shortfall in the market raced up to Rs. 100 billion,” the source opined.
Meanwhile CBSL also held a 12 day term reverse repo auction for Rs. 12.5 billion on Wednesday, with settlement on the following day Thursday. The WAY fetched for that tenure was 9.48%, two bps less than CBSL’s standing reverse repo facility of 9.50%.
* It’s the middle rate in two way quotes which is generally considered as the price at which trades are done.
**Inflation as measured by the YoY change in the CCPI last month was 9.2%, a 0.3 percentage points decline over the previous month’s YoY change in the CCPI as computed by Government controlled CSD.
But there are a number of persons who are cynical about the data thrown in by CSD, alleging that the inflation measurement basket has had been tampered with by the present government to throw up low inflationary data, when in fact that was allegedly the furthest from truth.