India’s Bond-Swap Spread Offers ‘Bounty’ for HDFC on Rate Cuts

India’s government bond yields have never been higher in relation to interest-rate swap rates, prompting HDFC Bank Ltd., Standard Chartered Plc and Sundaram BNP Paribas Asset Management Co. to bet the gap will narrow. The cost to receive floating-rate payments for five years is 1.43 percentage points below similar-maturity government bond yields on speculation the central bank will keep cutting interest rates to support a slowing economy. Reserve Bank of India Governor Duvvuri Subbarao lowered benchmark rates twice since Oct. 20, taking advantage of cooling inflation. “The record bond-swap spread is quite a bounty,” said Ashish Vaidya, head of interest-rate trading in Mumbai at HDFC Bank, India’s third-biggest by market value. “It shows the market believes rates should be much lower than current levels, given the prospects for growth and inflation.” The recommendations show investors are preparing for a series of RBI rate cuts after Finance Minister Palaniappan Chidambaram said this week a further moderation in price gains may lead to lower borrowing costs. The International Monetary Fund forecasts India’s economic growth will slow to 6.3 percent in 2009, the least since 2003. Goldman Sachs Group Inc. predicts 2.5 percentage points in rate reductions by mid-2009. In an interest-rate swap, two parties agree to exchange payments over a period of time. Typically, one will agree to pay a fixed rate, while the other pays a rate that fluctuates with a benchmark index or formula defined in the contract.