Financial Daily from THE HINDU group of publications
Wednesday, Jun 23, 2004
Financial Daily from THE HINDU group of publications Wednesday, Jun 23, 2004 |
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Money & Banking
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Debt Market Columns - Financial Scan Credit, not treasury, will determine banks' profits S. Balakrishnan
IT has been boom time for bank treasuries in the last five years. Yields on Government securities fell from 12 per cent + levels to 5 per cent. Banks were well-positioned to take advantage of the huge upward move in bond prices as the Reserve Bank of India mandates that at least 25 per cent of their liabilities must be invested in gilts as part of the Statutory Liquidity Ratio (SLR). Most banks, in fact, went well beyond this. Given the recessionary conditions in Indian industry in the late nineties, tightening capital, provisioning and NPA norms, bank funds found a friendly home in G-secs, which have zero credit risk and require no capital support. In recent times, the SLR portfolio of most banks was no less than 40 per cent of assets. There was nowhere for interest rates to go but down. Inflation was declining, the demand for credit was weak because of a slowdown in investment and opening up the economy meant that domestic interest rates must converge with the lower international rates over a period of time. At the same time, the RBI became proactive in liquidity management. It introduced the Liquidity Adjustment Facility (LAF) to inject or suck liquidity at the repo rate. Thus, the Bank Rate was replaced by a more sensitive interest rate signal enabling the RBI to convey its monetary stance effectively to the market. And the message clearly was of an easy (and easing) and soft (and softening) interest rate environment. The sources of treasury profits have been twofold: trading and capital gains from selling legacy securities in the portfolios. As interest rates pushed downwards, the more savvy banks aggressively bought securities in the secondary market benefiting from the price appreciation. The conservative ones soon jumped on the bandwagon. With the automation of clearing, settlement and custodial functions, it has become possible to trade inter-day (and lately intra-day), making it a significant profit centre. High coupon securities, acquired when interest rates were high, have been another godsend. Hard put to show profit growth amidst demanding provisioning requirements and poor credit offtake, these securities came to the rescue and lent respectability to performance. The wheel may be coming full circle. All indications are for a rise in interest rates this year. The boot is now clearly on the other foot. As bond prices and interest rates are inversely related, banks may have to provide for depreciation of their securities this year. Trading profits will be practically non-existent. The fiscal 2004-5 will clearly separate the men from the boys. As Mr Cherian Verghese, Chairman, Corporation Bank, remarked recently, treasury income is volatile as it depends entirely on financial market conditions. Banks, which did not forget their bread and butter business of credit amidst the bond market boom, will reap the rewards of their patience and application.
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