Online Courses (English)
This just in:

State PCS

Daily Updates

Indian Economy

Falling Bond Yield

  • 07 May 2021
  • 6 min read

Why in News

Recently, the Reserve Bank of India’s (RBI) decision to step up purchase of Government Securities (G-Sec) under the Government Securities Acquisition Programme (G-SAP) led to the yield on the benchmark 10-year bond falling below 6%.

  • In India, the yield of 10-year G-Sec is considered the benchmark and shows the overall interest rate scenario.

Key Points

  • Bond Yield:
    • Bond yield is the return an investor realizes on a bond. The mathematical formula for calculating yield is the annual coupon rate divided by the current market price of the bond
      • Bond: Is an instrument to borrow money. A bond could be issued by a country’s government or by a company to raise funds.
      • Coupon Rate: It is the rate of interest paid by bond issuers on the bond's face value.
  • Effect of General Movement of Bond Yields:
    • Movements in yields depend on trends in interest rates, it can result in capital gains or losses for investors.
      • A rise in bond yields in the market will bring the price of the bond down.
      • A drop in bond yield would benefit the investor as the price of the bond will rise, generating capital gains.
  • Reason for Decreasing Bond Yields:
    • Due to economic uncertainty caused by Covid-19.
    • In April 2021, the RBI launched G-SAP which has caused a decrease in G-sec yields which has continued since then.
  • Impact:
    • Better Equity Markets:
      • A decline in yield is also better for the equity markets because money starts flowing out of debt investments to equity investments.
        • Equity market: It is a market in which shares of companies are issued and traded, either through exchanges or over-the-counter markets. Also known as the stock market.
      • That means as bond yields go down, the equity markets tend to outperform by a bigger margin and as bond yields go up equity markets tend to falter.
    • Reduced Cost of Capital:
      • When bond yields go up, the cost of capital goes up. That means that future cash flows get discounted at a higher rate.
        • Discounting is the process of determining the present value of a payment or a stream of payments that is to be received in the future.
      • This compresses the valuations of these stocks. That is one of the reasons that whenever the interest rates are cut by the RBI, it is positive for stocks.
    • Reduces Risk of Bankruptcy:
      • When bond yields go up, it is a signal that corporates will have to pay a higher interest cost on debt.
      • As debt servicing costs go higher, the risk of bankruptcy and default also increases and this typically makes mid-cap and highly leveraged companies vulnerable.
  • RBI’s Stand:
    • The RBI has been aiming to keep yields lower as that reduces borrowing costs for the government while preventing any upward movement in lending rates in the market.
    • A rise in bond yields will put pressure on interest rates in the banking system which will lead to a hike in lending rates. The RBI wants to keep interest rates steady to kick-start investments.

Government Securities Acquisition Programme

  • About:
    • The RBI, for the year 2021-22, has decided to put in place a secondary market G-SAP 1.0.
    • Under the programme, the RBI will commit upfront to a specific amount of Open Market Purchases of G-Secs.
  • Objective:
    • To avoid volatility in the G-sec market in view of its central role in the pricing of other financial market instruments across the term structure and issuers, both in the public and private sectors.
  • Significance:
    • It will provide certainty to the bond market participants with regard to RBI’s commitment of support to the bond market in Financial Year (FY) 2021-2022.
    • It will help reduce the difference between the repo rate and the 10-year government bond yield.
      • That, in turn, will help to reduce the aggregate cost of borrowing for the Centre and states in FY 2021-22.
      • Repo rate is the rate at which RBI lends money to commercial banks.
    • It will enable a stable and orderly evolution of the yield curve amidst comfortable liquidity conditions.
      • Yield curve: It is a line that plots yields (interest rates) of bonds having equal credit quality but differing maturity dates.
        • The slope of the yield curve gives an idea of future interest rate changes and economic activity.


SMS Alerts

Please login or register to view note list


Please login or register to list article as bookmarked


Please login or register to make your note


Please login or register to list article as progressed


Please login or register to list article as bookmarked