Banking stocks have broadly reacted positively to the strict capital norms under the Basel regulations put in place for domestic banks over an 18-year period, starting October 1998, showed an RBI working paper.

The Basel capital regulations were implemented for the domestic banks in six phases starting from October 1998 to March 2016. These were put in place to align domestic norms with global regulations.

According to the working paper, domestic banking stocks declined only during two of the six phases of the implementation of the Basel norms.

The opinions expressed in the working paper are that of the authors and does not represent that of the RBI.

The working paper -- prepared by Gaurav Seth, an assistant general manager at the Reserve Bank of India (RBI), Supriya Katti, a project scientist and BV Phani, a professor at IIT Kanpur -- evaluates the market reaction to different stages of Basel norms implementation.

Study methodology

Using event study methodology, it has been found that in the initial phase, banks were not prepared to raise the capital to 9 per cent from 8 per cent and therefore, the markets overreacted to Basel I announcement.

However, subsequent announcements received a positive market response since banks benefited from the previous experiences and were thus prepared to cope with the expected changes, says the working paper titled 'Stock price reaction on the announcement of Basel implementation: Evidence from domestic banks'.

It said that a day before the actual implementation of Basel I norms on October 30, 1998, bank counters fell 2.96 per cent.

Valuation gained around April 27, 2007, implementation was strongly positive for all banks when the RBI announced final guidelines for implementation of Basel II.

For the third phase on December 30, 2011, the market reacted negatively prior to the announcement but later, the banking stocks saw a valuation gain of 2.03 per cent.

The fourth phase was on May 2, 2012. However, at that time, all 34 banking stocks plunged 5.82 per cent.

As per the working paper, the fifth phase was on March 27, 2014, and the market reacted significantly positively. Similar was the trend when during the implementation in the sixth phase in March 2016.

During the third, fourth, fifth and sixth phases, Basel III norms were implemented.