The Hindu Business Line : Banks wary of low yield, long tenor

These bonds were issued to oil companies last week as part of the Government's liquidation of the oil pool deficit. The bonds amounting to Rs 5,762.85 crore were placed with 12 oil companies. Bankers said that the poor interest was partly on account of the illiquid nature of the security. The 7-year oil bonds are not eligible for the Statutory Liquidity Ratio (SLR) status.

Besides, these securities were also ineligible for repurchase operations of the Reserve Bank of India. This implied that bankers could not place the securities with the RBI for raising short-term liquidity. Consequently, most banks treat the security as illiquid, bankers said. The securities were eligible for inter-bank repos.

However, one of the major reasons for them staying away from the security was the low yield. The seven-year yield-to-maturity is currently close to about 6.98 per cent for highly liquidity securities. For illiquid securities, the yield is expected to be at least 20 basis points higher. For any interest in this security, the yield would have to be much higher, bankers said implying that the oil companies would have to sell it at a substantial discount to face value.

Besides, the lack of interest in the security was partly prompted by fears of a possible hardening of yields in the coming weeks. This was in view of the high credit growth, powered by non-food credit, which has been rising at an annual clip of about 30 per cent. Consequently, there was little interest in investments at this juncture.

Credit growth

Bankers also said the investment-deposit ratio was currently about 41 per cent. Banks were pushing this credit growth by liquidating some of their investment portfolios or reshuffling them with shorter tenor securities. The average tenor for the banking industry on their investment portfolios has already been brought down to under four years, so as to remain liquid.

This would mean that even if the banks pick up the oil bonds at par they would end up making large depreciation provisions, cutting into their earnings. Moreover, the second pillar of the Basel II guidelines, capital charge on market risk, is expected to come into force from March 2006. Few banks are prepared to pick up these securities in such a situation.

Insurers cold

Banks are not the only ones to have shown little interest in picking up the oil bonds in the secondary markets. Even life insurance companies are staying away from the security as the bonds were medium term securities. Insurers are mostly interested in securities with tenors above 10 years for matching their long-term liabilities.

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