Indian markets eye portfolio inflows as rupee holds range and bond yields face liquidity pressure

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Indian markets: rupee, bonds, inflows

Highlights

The Indian rupee closed at 95.8725 per U.S. dollar, down 0.3% for the week, as portfolio inflows and RBI intervention offset strong importer demand and elevated oil prices.
The benchmark 10-year bond yield rose to 7.0686%, up 5 basis points for the week and 26 basis points since Aug. 17, amid expectations of further RBI liquidity withdrawal and rate hikes.
The Reserve Bank of India sold 500 billion rupees of short-duration bonds last week and is set to auction another 500 billion rupees over two tranches to drain excess liquidity.

Rupee trading range shaped by flows and oil

As reported by Reuters, the Indian rupee is expected to trade between 95.30 and 96.00 per U.S. dollar this week after closing at 95.8725 on Friday, down 0.3% for the week. Traders say portfolio inflows and central bank intervention are offering support, but strong importer hedging and elevated oil prices linked to the Middle East conflict are limiting upside.

Investors are also watching how the conflict affects crude prices and global inflation, as higher oil costs tend to widen India's import bill and weigh on the currency. Equity-related inflows may provide only partial relief because steady importer demand for dollars remains in place.

Market participants are also focusing on comments from Federal Reserve policymakers after the U.S. central bank delivered its first rate hike in three years last week. Goldman Sachs analysts said in a note that they now expect the Federal Open Market Committee to deliver a second 25 basis point hike in October, rather than September being the only increase, a shift that could strengthen the dollar further.

Bond yields rise as RBI withdraws cash

Indian government bonds are likely to face additional selling pressure toward the end of the fiscal first half as expectations for a Reserve Bank of India rate hike grow and the central bank continues to drain surplus liquidity from the banking system.

The benchmark 10-year bond yield posts a fifth straight weekly rise after ending at 7.0686% on Friday, up 5 basis points for the week and adding to an increase of about 26 basis points over the previous four weeks starting Aug. 17. Traders expect the benchmark yield to move in a 7.00% to 7.12% range, with attention on U.S. yields, oil prices and any further RBI steps to absorb cash.

Last week, the RBI sold shorter-duration bonds worth 500 billion rupees, or about $5.21 billion, in its first net sale through an auction since November 2017. The central bank is scheduled to sell debt worth 250 billion rupees later in the day and another 250 billion rupees next Monday, moves aimed at withdrawing cash on a more durable basis.

Sandeep Bagla, chief executive of Trust Mutual Fund, says a rate hike could help restore credibility on inflation control, while Krishna Bhimavarapu, APAC economist at State Street Investment Management, says an October policy increase should not be ruled out if excess liquidity continues to keep overnight rates below the repo rate.

Our earlier coverage on U.S. market futures highlighted how escalating Middle East tensions and oil near $100 a barrel, alongside the Federal Reserve’s first rate hike in three years, were pressuring risk sentiment as Treasury yields hovered close to 5%. We also noted that these crosscurrents were raising the stakes for U.S.–China talks ahead of a Trump–Xi summit, with tariffs, critical minerals and AI among the key items investors were watching.

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