Indian government bonds rallied on Monday, driving the benchmark yield to its steepest one-day drop in two months, amid a sharp decline in crude oil prices after U.S.-Iran strikes were suspended, fuelling hopes of a diplomatic resolution.
The benchmark 6.94% 2036 bond yield ended at 6.7739%, down from a closing level of 6.8253% on Friday and erasing last week's rise.
Brent crude prices fell 4% in the previous session and slumped another 9% in Asian trading after the United States and Iran paused fighting. The contract last traded at around $89 per barrel, after surging to $102 last week.
Lower oil prices are likely to ease inflationary pressures and give the Federal Reserve greater policy flexibility ahead of its rate decision on Wednesday.
Interest rate futures imply a 66% probability of a status quo in this meeting, with the market widely expecting a rate hike in September. The 10-year Treasury yield eased to 4.64%.
India is among the major beneficiaries of cooling oil prices, as higher energy costs increase the import bill, fan domestic inflation and worsen the current-account balance, ultimately pushing up the odds of monetary tightening.
The Reserve Bank of India's policy decision is due next week, with the central bank likely to keep its key interest rate unchanged at 5.25%, according to a Reuters poll of economists.
Additionally, Capital Economics analysts said that monsoon rainfall has been weak so farthis seasonand could add to inflation risks if conditions do not improve.
RATES
India's overnight index swap rates plunged, as a sudden move in oil prices led to the unwinding of recent aggressive paid positions.
The one-year swap rate ended at 5.90%, while the two-year rate closed at 6.07%. The most liquid five-year rate dropped to settle at 6.36%.
The swap rates plummeted 9-14 bps, their biggest such move since May 25.
