Mumbai: Traders in India are so convinced that slowing inflation will lead to a rate cut that the central bank’s increasing intervention in the bond market isn’t bothering them.

Benchmark 10-year yields are seen extending declines from a three-week low reached on Thursday after data showed consumer-price gains slowed to a record, according to Kotak Mahindra Asset Management Co. and Standard Chartered Plc. That’s even as a Bloomberg survey indicates that the Reserve Bank of India may sell 300 billion rupees (Dh17.26 billion; $4.7 billion) more of notes via open-market operations this quarter to soak up excess liquidity.

“Inflation softening would certainly ignite hopes of an August rate cut,” said Lakshmi Iyer, Mumbai-based chief investment officer for debt at Kotak Mahindra. “That would give some cushion to the supply that lies ahead.” The yield range for the benchmark yield would probably drop by around 25 basis points from current levels, she added.

The RBI is balancing a need to absorb liquidity that was pumped into the banking system following the government’s shock note ban in November, and a dovish policy tilt given indications the economy is slowing. The bond market has seen views split, with local banks selling down debt even while Franklin Templeton Investments and other foreign funds have jumped into the market.

Overseas investors are net buyers of rupee-denominated debt for a sixth straight month in July, having raised holdings by 1.27 trillion rupees since the end of January. They bought 73.3 billion rupee of bonds on Tuesday alone. The 10-year yield fell three basis points on Thursday to 6.44 per cent.

Meanwhile, the RBI took out 100 billion rupees on July 6 via the first open-market debt sale in eight months, and has another planned for July 20. The central bank, which is also using daily operations and reverse repurchase auctions to drain funds, has said it wants to move to a neutral liquidity situation from a surplus one.

Back in November, the government’s move to scrap high-denomination bank notes led to the withdrawal of 86 per cent of currency from circulation. Local lenders had 3.08 trillion rupees of cash parked with the RBI as of July 11, according to the Bloomberg Intelligence India Banking Liquidity Index, compared with a record 5.46 trillion rupees in March.

“The OMO supply is getting well absorbed because foreign purchases have been robust this year,” said Neeraj Gambhir, Mumbai-based managing director and head of fixed income at the Indian unit of Nomura Holdings Inc. “While incremental supply of OMOs is there, demand-supply looks well balanced.”

Gambhir predicted open-market debt sales of as much as another 400 billion rupees by September. The Bloomberg survey estimate is based on a median of responses by 10 traders.

Still, the latest consumer price data released Wednesday offers support for the bond market. Inflation eased to a record low of 1.54 per cent in June, from 2.18 per cent in May. That’s adding to pressure on RBI to change the neutral stance it adopted just five months ago.

“The current excess liquidity can take a couple of years to reach neutral level as currency in circulation increases,” said Gopikrishnan MS, head of foreign exchange, rates and credit for South Asia at Standard Chartered in Mumbai. “The RBI may have thought of hastening this process through OMOs as they seem to be constantly worried about excess liquidity stoking inflation.”

The 10-year bond yield is likely to trade in a range of 6.35 per cent to 6.40 per cent going into the Aug. 2 meeting, he said.