The Hindu Business Line : Bankers reluctant to swap securities

Reasons cited
Bankers are not ready for swap arrangements this time also.
They prefer short tenure securities anticipating tight liquidity.
They are interested in securities buyback if it is an all-cash deal.

Bangalore , May 8

Bankers have expressed reservations over the Reserve Bank of India's proposal for securities buyback programme in the Credit Policy.

The RBI has proposed a buyback of illiquid securities and replacing the same with liquid securities. The proposal is yet to be notified but is expected to be identical to the last one in 2003. The reason advanced for this buyback is creating depth in the markets and greater liquidity to the banking system.

However, bankers said that few of them were enthusiastic about the scheme. Even in 2003, the response was similar. At that point of time, banks were dependent on coupon flows from investments to boost their bottom lines, when credit growth was barely 10 per cent and markets were flush with liquidity.

This time bankers' reluctance stems from completely different reasons. None of them are ready for swap arrangements as in the last time. This would result in elongating the average maturity of their portfolios. This is particularly at a time when the average maturity of banks' investment portfolios that include held to maturity, available for sale and held for trading categories are less than three years.

In the last buyback scheme, high coupon securities were prematurely redeemed through a combination of swaps and cash. The swaps involved replacement of high coupons with long dated securities, for up to 14 years.

But few banks are now prepared to have such long tenure securities in their respective portfolios. Theyfear that the elongation of the maturity profile would impact their portfolio liquidity. Short tenure securities are preferred by banks in anticipated tight liquidity situations.

The residual maturity of some of the high coupon securities in banks' portfolios is barely five years. Most of them have switched their long tenor securities like the 12.6 per cent 2018 and the 11.6 per cent 2020 for lower tenor securities with the Life Insurance Corporation of India.

As a result, most of the high coupon securities are now with LIC, bankers said. In fact, they said illiquidity of certain securities were partly due to LIC's bulk purchases. Life insurance companies hold securities till maturity and seldom trade.

Consequently bankers said that they would be interested in any securities buyback scheme only if it was an all cash deal. This would help them improve their liquidity for meeting credit, particularly farm credit requirement at low costs.

In fact, most of the banks had parted with their high coupon securities to life insurers since they were prepared to meet the payments upfront, or offer short tenure securities that ensure portfolio liquidity. In fact, in some of these switches or out right sales, some of the banks had incurred losses.

The losses were incurred since they were sold at higher yields (low prices) than the acquisition cost. The losses, bankers said, were only notional, since interest earnings from advances offset them. Besides, bankers said their hesitation of any new government securities buyback was also due to the fact that illiquidity in their portfolios was only notional.

One banker commented, "All the securities are now Repoable (eligible for repurchase operations). So where is the illiquidity?."

In fact during the tight liquidity period in March, bankers tapped the RBI's Repo window or through the collateralised markets for meeting their liquidity requirement.

Consequently the suspected purpose of a fresh buyback is for further pruning government's interest expenditure and thereby contain revenue deficits. Under Section 4 (1) of the Fiscal Responsibility and Budget Management Act, the Centre is expected to eliminate the revenue deficit to zero.

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