PSU bond issues hit pause as yields harden despite RBI rate cut

A growing disconnect between monetary policy signals and bond market pricing is forcing state-owned borrowers to step back from planned fundraisings.

On Monday, Indian Railway Finance Corp Ltd (IRFC) became the third public sector issuer—after Power Finance Corp (PFC) and Small Industries Development Bank of India (Sidbi)—to withdraw a bond issue within a week.

IRFC withdrew its plans to raise up to ₹5,000 crore through zero-coupon bonds (ZCBs) as there was limited interest from investors to bid for tight pricing, three merchant bankers told Mint.

According to a bid book accessed by Mint, IRFC withdrew its up-to- ₹5,000-crore zero-coupon bond maturing in 10 years after it received bids worth over ₹4,461 crore in the range of 6.63-7.23%. The company had expected a coupon rate of around 6.8%, with the cut-off in the range of 7.23-7.25%.

This follows last week’s cancellations of PFC’s plan to raise up to ₹3,500 crore through 15-year bonds, and Sidbi’s plan to raise up to ₹8,000 crore through November 2029 bonds as they did not find the right pricing, the merchant bankers cited above said on condition of anonymity.

Sidbi was expecting a coupon rate of around 6.8% for its short-term paper, but received bids closer to 6.9%, while PFC scrapped its issue after bids came in around 7.18%, well above its expectation of about 7.1%.

Market participants said the withdrawals reflect broader pressures building across the yield curve rather than issuer-specific concerns.

“A combination of rupee depreciation, unresolved global uncertainties, muted foreign portfolio inflows and an unrelenting pipeline of long-tenor government borrowing kept pressure firmly on the yield curve,” said Venkatakrishnan Srinivasan, founder and managing partner at Rockfort Fincap LLP.

“IRFC’s decision to withdraw the issue was therefore not a retreat, but a statement of market discipline since accepting materially higher yields would have undermined the credibility of the earlier tranche, unsettled existing investors and distorted price discovery for a still-nascent ZCB segment,” he added.

A zero-coupon or deep-discount bond is a security sold at a discount of over 20% from its face value. IRFC had received special approval from the government in May to issue ZCBs worth ₹10,000 crore.

So far, IRFC has raised ₹2,982 crore in late November through the issue of ZCBs maturing in 10 years at a cut-off yield of 6.8%. This is against ₹4,000 crore that the company had initially planned to borrow in that tranche.

An email sent to IRFC seeking a response on the matter did not elicit any response till press time.

The disconnect between monetary policy and bond yields

“The PFC–SIDBI–IRFC zero coupon bond (ZCB) episode is a textbook reminder that bond market sentiment often overwhelms monetary policy signalling,” said Srinivasan, adding that despite a repo rate cut by the RBI, the benchmark government bond yields hardened instead of easing, pulling corporate bond yields higher almost in lockstep.

Notably, the yield on benchmark government bonds has risen about 10 basis points (bps) to 6.59% since the Reserve Bank of India’s monetary policy announcement on 5 December, when the monetary policy committee (MPC) cut the repo rate by 25 bps to 5.25%. Government bond yields are the benchmark for corporate borrowings. A hundred basis points make 1%.

“The historical difference between the repo rate and the 10-year has been around around 80 to 100 basis points,” said Madan Sabnavis, chief economist, Bank of Baroda. The difference is now at 134 bps.

Sabnavis said the yields began hardening after the RBI said on 5 December that the open market operations (OMO) should be interpreted as a liquidity enhancing measure and not something to affect the yields.

OMOs comprise a monetary policy tool, where the central bank buys or sells government bonds in the open market to manage liquidity in the system.

Experts pointed to a raft of reasons for the disconnect between monetary policy and bond yields.

“Policy rate cuts influence the short end immediately, but long-term bond yields are driven by liquidity conditions, fiscal supply, inflation risk and investor balance sheet constraints,” V.R.C. Reddy, head of treasury at Karur Vysya Bank said. “Until liquidity eases meaningfully and supply pressure moderates, yields may not move in tandem with policy signals.”

“Transmission in the g-sec market remains stalled,” said Soumyajit Niyogi, director at India Ratings and Research. “Typically, low rates driven by crises push investors toward safe havens, fuelling bond rallies. That playbook doesn’t apply this time. Domestic investors are comfortable taking risk, and bonds are no longer the preferred mode, given risk on sentiment.”

“On the supply front, the market is worried by a possible surge in state government bond issuance in Q4. On the demand side, investor demand remains subdued among insurance and pension companies,” said Gaura Sengupta, chief economist, IDFC First Bank.

Further, such lower expectations from the bond market on pricing has also come because of a somewhat competitive pricing on bank loans. The weighted average lending rate (WALR) on fresh rupee loans of scheduled commercial banks was at 8.64% in October, lower than 8.5% in September, according to latest data by the RBI.