By Nimesh Vora and Nupur Anand
MUMBAI (Reuters) - Tighter liquidity conditions, a moderation in demand from insurers and a higher Reserve Bank of India terminal rate will likely push the 10-year Indian government bond yield to 7.90-8.00%, a top Citigroup Asia executive said on Thursday.
"The second half (of fiscal 2023) will be a bit more challenging (for the Indian bond market) than the first, definitely," said Badrinivas NC, managing director, head of markets of South Asia at Citi.
"I think the terminal rate for the market will be a little higher than what they were thinking maybe in June and July."
"Second, some of the demand of the insurance companies, I think, will reduce. Thirdly, liquidity conditions are going to be a lot tighter in the next six months than it was in the last six months."
Indian government bond auctions went through successfully in the April-September period on strong demand from insurance companies and from banks.
While India's banking system liquidity was largely at a surplus during that period, it slipped into deficit towards the end of September.
Meanwhile, market expectations for the RBI's terminal rate are mostly around 6.25% to 6.50%.
With demand and liquidity conditions likely to change in the October-March period, "the price to clear auctions will probably have to a go a little bit higher that what they were for the last few months," Badrinivas said.
Based on a terminal repo rate of 6.5%, with "the risk that you can go a little bit higher," and a premium of about 150 basis points, the 10-year yield will probably reach around 7.90% to 8%, Badrinivas estimated.
The 10-year India bond yield was at 7.45% on Thursday, up nine basis points from the previous session, with J.P. Morgan's decision to not include the country's local debt into its emerging market index among the key reasons for the selloff.
Badrinivas reckoned that it was only a matter of time before India would be added to global bond indexes, pointing to the "strong need" felt by some foreign investors.
He said he would be surprised if India didn't end up being part of global indexes in the next two years.
Badrinivas said "its very understandable" that the RBI was expending foreign exchange reserves to stem the rupee's decline and pointed out that the interventions have been successful when considering the steeper drop in other currencies.
He reckoned that the level of reserves at which the RBI would consider additional steps to boost the rupee was quite far away. Including the spot and the forward book, it was likely below $500 billion, he estimated.
Meanwhile, on the banking end, Citi is focusing on ramping up its commercial business in India, after recently selling its consumer banking business in the country.
"The mid-market commercial segment is a big opportunity and a focus area for us because we expect that these will evolve into bigger companies," said Badrinivas.
"And so, we are expanding our acquisition of clients in this segment and the kind of products that we're offering them."
The mid-commercial segment typically includes companies that are already fairly large and on the cusp of expanding further.
Citi had earlier said it is looking to expand its commercial banking business in India and growing its client base by 50% by 2025.
Earlier this year, Citi sold its consumer franchise business in India to Axis Bank Ltd. It is also winding down its consumer business in 12 other markets to refocus on its more lucrative institutional and wealth management business.
(Reporting by Nimesh Vora and Nupur Anand in Mumbai; Editing by Savio D'Souza)