Mumbai: India’s swap rates are exaggerating the risk of the central bank raising borrowing costs, providing investors an opportunity to profit by receiving fixed payments, DBS Group Holdings Ltd said.
The Reserve Bank of India (RBI) will hold its benchmark rate at a record low 3.25% through 2009, awaiting stronger evidence that the economic recovery is sustainable, said Jens Lauschke, a DBS strategist in Singapore. Overnight borrowing costs between banks will stay low as the slowest loan growth in five years leaves lenders with excess cash, he said. “Swaps imply overnight rates will soon rise, but that may happen only if the central bank raises policy rates or the excess liquidity in the banking system is drained,” Lauschke said in an interview. “Neither is likely this year.”
Investors should agree to receive a fixed rate for one year in exchange for paying an adjustable rate equivalent to the overnight borrowing rate between banks. The one-year swap rate is currently at 4.39%, near this year’s highest, while the overnight rate is at 3.2%.
In an interest-rate swap, two parties agree to exchange payments over a period of time, typically involving fixed and fluctuating rates. In a so-called overnight indexed swap, the floating payments equal the one-day money-market rate irrespective of the maturity period of the transaction.
The difference, or spread, between one-year swap rates and overnight rates is now 1.2 percentage points, after this month reaching the highest since Lehman Brothers Holdings Inc. filed for bankruptcy in September 2008.
DBS predicts the Reserve Bank will raise the reverse-repurchase rate by 75 basis points in the first quarter of 2010. A basis point is one-hundredth of a percentage point.
The Reserve Bank has forecast Asia’s third largest economy will expand about 6% in fiscal year ending 31 March, the slowest pace since 2003. The monetary authority, which cut benchmark rates six times from October through April to spur growth, hasn’t changed them since.
Cash at India’s banks has increased in recent months as loan growth lagged behind gains in deposits. Lending rose 15.8% in the year through July, while savings climbed by 21.8%, central bank data show. A surge in banks’ subscriptions at RBI’s daily money-market auctions shows lenders have more spare funds.