Topic 2: DEBT: YIELD PRESSURES

Indian debt markets delivered a weaker performance in January 2026, contrasting sharply with the simultaneous correction in equity markets. Bond yields hardened across the curve as concerns over elevated government borrowing, tightening system liquidity, and shifting global capital flows outweighed the Reserve Bank of India’s liquidity support measures. Despite debt’s traditional safe-haven appeal, supply-side pressures capped price gains and pushed yields to multi-month highs. The most notable development during the month was the sharp upward movement in sovereign bond yields. The benchmark 10-year government security yield rose by approximately 25–40 basis points from early January lows of around 6.5%, touching an 11-month high of 6.72% by the end of the month. The move was driven largely by expectations of significantly higher borrowing by both the central and state governments in the upcoming fiscal years.
Corporate bond yields also edged higher, rising between 3 and 28 basis points across tenors as spreads widened modestly amid cautious demand. In contrast, very short-term rates showed mixed trends. Overnight interbank call money rates eased briefly to around 5.30% due to RBI liquidity injections, though volatility persisted at the short end of the curve. A key factor weighing on bond markets was the anticipated surge in government borrowing. Pre-Budget signals and market estimates suggested gross market borrowing of approximately ₹15.6 lakh crore for the central government in FY26-27, with additional borrowing by states pushing total supply pressure close to ₹30 trillion. This scale of issuance raised concerns about the market’s ability to absorb supply without higher yield premiums. Auction dynamics reflected this stress. While Treasury bills continued to see healthy demand, longer-tenor government securities witnessed tepid bidding, forcing yields higher. Historical trends suggest that large state borrowing calendars—estimated at nearly ₹10.2 trillion—often correlate with 20–50 basis point increases in benchmark yields, a pattern that began to play out during the month. Liquidity conditions further compounded pressure on debt markets. Banking system liquidity remained in deficit, driven by sluggish deposit growth of 10.7% year-on-year compared with credit growth of 11.5%. Additionally, RBI’s foreign exchange interventions—estimated at nearly $30 billion—to stabilize the rupee drained systemic liquidity and reduced surplus reserves. Regulatory and accounting changes prompted banks to conserve cash, pushing one-year certificate of deposit (CD) yields up to 7.20%, notably above the policy repo rate of 6.25%. Call money rates intermittently spiked to 6.45%. The RBI responded with variable rate reverse repo (VRRR) auctions totalling nearly ₹1 trillion and conducted open market operations (OMOs) worth about ₹2.6 trillion. While these measures provided temporary relief at the short end, they were insufficient to offset medium- and long-term supply concerns.
Foreign portfolio investors (FPIs) shifted stance during January, becoming net sellers of Indian debt to the tune of approximately $1.5 billion—the first monthly outflow since June 2025. Rising global bond yields, particularly US 10-year Treasuries offering yields near 4.8%, improved the relative attractiveness of developed market debt. Meanwhile, India’s real yields compressed to around 1.8%, reducing carry appeal at the margin. Despite January’s outflows, year-to-date debt inflows remained positive at $6.16 billion, supported by longer-term confidence in India’s macro stability. Within the domestic market, FPIs showed a preference for high-quality AAA corporate bonds. Nonetheless, spreads widened by 5–10 basis points for AA and AAA issuers, and the BSE debt index declined around 0.8% during the month. Additional disappointment came from the absence of India’s government bonds in the Bloomberg Emerging Market bond index, with inclusion deferred to March. This delayed potential inflows of nearly $3 billion. Globally, geopolitical tensions, trade rhetoric from the US, and a weaker rupee