The Hindu Business Line : ICRA's new norms for bank hybrids

Rating agency ICRA Ltd has said that it would adopt a different rating approach on the new instruments that the Reserve Bank of India has permitted banks to raise to shore up their capital adequacy.

The agency has said that the different approach has been necessitated by the fact the new instruments, despite having equity-like characteristics that make them eligible for inclusion in capital, carry the potential to impact two key credit rating drivers: `probability of default', and `loss given default'.

RBI guidelines

"The provisions of the new RBI guidelines prohibit scheduled commercial banks (SCBs) from servicing the new instruments in breach of regulatory capital adequacy.

This implies relatively greater uncertainty and thus higher probability of default (than conventional instruments), which ICRA would communicate via notched-down ratings of new instrument," the rating agency has said. To provide greater leeway to shore up their capital adequacy, the RBI recently allowed inclusion of investment fluctuation reserve in Tier 1 from March 31, 2006, raising innovative perpetual debt instrument (upper Tier 2) and introduction of senior subordinated debt (Tier 1), ICRA has pointed out.

The ratings agency has pointed out that the instruments combine features of debt (regular interest payments, for instance) and equity-like characteristics (such as long/perpetual maturities and provision to defer payments) have relatively higher loss absorption capacity compared to the traditional subordinated debt.

ICRA has said that rating approach adopted for these instruments is in line with the best international rating practices.

Rating differentiation

It has, however, pointed out that while no clause contained in the RBI guidelines necessitates rating differentiation between Lower Tier I and Upper Tier II for stronger banks, that is not the case with banks that have relatively weak credit profiles.

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