Indian government bonds extended their losing streak in early trading on Friday, with traders adopting a cautious stance ahead of a significant debt auction and key policy announcements. The benchmark 10-year yield climbed to 6.67% as of 10:30 a.m. IST, rising from its Wednesday close of 6.65%. The debt market remained closed on Thursday due to a local holiday.

Weekly Debt Auction Details

The Indian Government is set to auction bonds worth ₹31,000 crores ($3.43 billion) on Friday, featuring both liquid five-year securities and a new 50-year bond. This auction will serve as a crucial test of investor appetite, particularly from long-term institutional investors such as insurance companies.

Market Sentiment and Upcoming Events

Trader sentiment remains subdued due to multiple factors weighing on the bond market. "There aren't many positive cues to drive buying, and traders are staying cautious ahead of the budget and the RBI's policy decision," noted a private-bank trader. The market faces two critical upcoming events that could significantly impact bond prices and yields.

Index Inclusion Disappointment

Market sentiment has deteriorated following Bloomberg Index Services' decision to defer adding Indian bonds to its flagship Global Aggregate Index. This development has disappointed investors who had been accumulating positions in anticipation of the inclusion, which would have brought significant foreign inflows into the Indian debt market.

Central Bank Bond Purchase Program

Despite the Reserve Bank of India's substantial bond purchase program, market sentiment remains weak. The central bank has purchased ₹2.50 lakh crores worth of bonds over the past month and is scheduled to buy an additional ₹50,000 crores next week. However, traders indicate that these purchases have provided limited market support as the buying has concentrated on less-traded securities rather than benchmark bonds.

Interest Rate Movements

The broader interest rate environment also reflected the cautious sentiment, with overnight index swap (OIS) rates rising across various tenors. The one-year OIS increased by 1.75 basis points to 5.53%, while the two-year swap rate climbed 2 basis points to 5.62%. The five-year OIS rate crossed a key level, reaching 6.01% with a 2.75 basis point increase for the day, indicating diminished expectations for further rate cuts.

Indian government bonds extended their decline on Wednesday, with the benchmark 10-year bond falling to its lowest level in more than three weeks following Bloomberg's decision to exclude Indian debt from its Global Aggregate Index. The selloff reflects continued market disappointment over the deferred inclusion, which has dampened investor sentiment across the bond market.

Bond Yield Performance

The benchmark 10-year bond yield performance showed significant movement following the index announcement:

Bond yields move inversely to prices, indicating that bond prices have fallen as yields climbed to these elevated levels. The 10-year yield has risen 4.50 basis points since Bloomberg Index Services announced its deferral decision on Tuesday.

Bloomberg Index Decision Impact

Bloomberg Index Services postponed adding Indian bonds to its flagship Global Aggregate Index, stating it will issue another update by mid-year 2026. This decision has triggered widespread selling among most market participants, as investors had anticipated the inclusion would bring significant foreign inflows into Indian debt markets.

The index exclusion has created a challenging environment for Indian bonds, with market sentiment remaining sour following the announcement. Traders and investors are now reassessing their positions in Indian government securities.

Market Activity and Central Bank Intervention

Despite the broad-based selling, one category of investors has been actively purchasing bonds:

The "others" category includes the Reserve Bank of India, corporates, and insurers. Traders suggest this buying pattern indicates the central bank may be actively purchasing in the secondary market, particularly following the redemption of a security on Friday.

Trading Outlook and Risk Factors

Market experts are providing guidance on potential trading ranges and risk factors. Alok Sharma, head of treasury at ICBC Mumbai, noted that in the absence of index inclusion, the 10-year yield may gravitate towards the 6.65%-6.70% band, which could present attractive buying opportunities.

However, traders identified a key risk factor that could disrupt this outlook. The primary threat to buying in this yield range stems from potential escalation of Middle East tensions, which could significantly impact market dynamics.

Broader Market Implications

The bond market weakness has extended to other interest rate instruments. India's overnight index swap rates reflected the sour market sentiment:

Traders continue monitoring developments in the Middle East closely, as oil prices have been rising with benchmark Brent crude reaching a more than two-month peak on Tuesday. These geopolitical factors add another layer of complexity to the Indian bond market outlook.