The base rate regime has kicked in with some surprises. Banks have chosen to announce rates that are lower than those of SBI, sign of a bolder pricing regime in short-term markets. Most base rates that have been announced, subject to revision in a quarter, are still higher than prevailing short term rates.
The question to ask is how corporates that were borrowing in the CP market for 90days at 6%, would accept the higher base rates being proposed by banks. The tightness in the money markets in the last fortnight has pushed these rates to 7.2%. Higher CP rates may be the only route for the short term borrowing rates to converge as bank lending cannot be below the base rate. That may not however mean that banks would start buying corporate CPs, since CPs are not technically advances of banks, but securities. A tighter CP rate has already meant a bonanza for short term debt funds, whose yields have moved up. If the rates remain high even after the temporary tightness in the money markets, and easing of the redemption pressure on short term funds, we would see a slew of 91-day FMPs with attractive yields. In the last month, the 91-day CPs have sold like hot cakes and higher CP yields will fuel the demand for this product further.
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