The Hindu Business Line : Market risks drive PSBs to merchant trading

Signs of times
Treasury income of many banks shows decline.
Proprietary trading is seen as too risky in volatile markets.
Corporate volumes show sharp growth

Shobha Kannan

Mumbai, Oct 17 Banks are scaling down their proprietary trading (i.e. trading on their account as opposed to trading against specific customer orders) in forex and bond instruments, in order to avoid the risks arising from volatility in asset prices in currency and security markets.

“The volatility is good for boosting treasury income, but not all banks have that kind of risk appetite to manage the volatility efficiently,” said the treasury head of a public sector bank.

There is some indirect evidence of PSU banks’ reluctance on the foreign exchange contracts in the latest RBI publication on the ‘Trends and Progress of Banking in India. While figures for the year 2006-07 are not available, data for 2005-06 shows that the outstanding value of forward exchange contract (an agreement between two parties to exchange one currency for another at a future date and at a pre-determined exchange rate) of nationalised banks grew by a meagre 9.55 per cent to Rs 2,98,695.96 crore, against Rs 2,72,656.79 crore in 2004-05.

Merchant trading up

Bankers said that proprietary trading, which used to contribute to almost 90 per cent of the treasury income in most banks in the years 1999-2004, is seeing a dip and has been replaced to a large extent by trading on behalf of corporates.

The treasury head of a private bank said, “The ratio of proprietary trading to merchant trading of our bank was 10:1 seven years back, but it has been largely replaced by merchant trading and now the bank has an equal mix of both.” He also said that there were greater possibilities of incurring huge losses from proprietary trading.

“Every bank is trying to go for merchant business, as corporate volumes have seen a tremendous growth,” said Mr K. Harihar, Executive Vice-President, Head-Treasury and Financial Institutions, Development Credit Bank.

Less risky

Bankers also feel that merchant trading is a less risky venture. “It is less risky and ensures a fixed fee-based income for the banks,” said Mr Moses Harding, Executive Vice- President, Head-Wholesale Banking Group, IndusInd Bank.

The slowdown in proprietary trading is reflected to some extent in the treasury income of certain banks, which has shown a steady decline.

HDFC Bank recorded a loss of Rs 50.63 crore in its revenue from treasury operations for the quarter ended September 30, 2007, against a profit of Rs 3.01 crore in the corresponding quarter of last year. The figure for the June 2007 quarter stood at Rs 7.49 crore while that for March 2007 was at Rs 27.47 crore.

Bank of Baroda registered a profit of Rs 138.12 crore in the quarter ended June 2007, however, on a sequential basis the profit was down from Rs 254.45 crore registered in the quarter ended March 2007.

State Bank of India’s income from treasury operations saw a loss of Rs 316.71 crore in the quarter ended June 2007, against a profit of Rs 117.73 crore in the year ended March 2007. ICICI Bank’s income from treasury operations, however, went up to Rs 195 crore for the first quarter ended June 2007, against Rs 18 crore in the corresponding quarter of last fiscal.

Foreign banks happy

But not all banks are worried overthe spectre of volatility as to desist from proprietary trading, a key source of treasury profits for banks. The outstanding exposure on forward exchange contract of new private banks grew by 54.04 per cent at Rs 4,28,420.21 crore in 2005-06, while the same for foreign banks grew by a robust 57.81 per cent at Rs 23,04,908.63 crore, which suggests a ramping up of operations through the year.

Foreign banks have made the best use of the opportunity. “With the kind of volatility in the situation and the unidirectional movement of the market, there is greater opportunity for our proprietary trading to grow,” said a senior official with a foreign bank.