Sign up for Equitymaster's free daily newsletter, The 5 Minute WrapUp and get access to our latest Multibagger guide (2017 Edition) on picking money-making stocks.

This is an entirely free service. No payments are to be made.

Download Now Subscribe to our free daily e-letter, The 5 Minute WrapUp and get this complimentary report.
We hate spam as much as you do. Check out our Privacy Policy and Terms Of Use.
Banking: Treasury misnomers... - Views on News from Equitymaster
  • E-MAIL
  • A  A  A
  • Apr 27, 2007

    Banking: Treasury misnomers...

    A spurt in interest rates over the past year raised concerns over Indian banks' balance sheets. These banks took a substantial hit on their investment portfolios on account of the marked-to-market (MTM) provisioning of investments in the available-for-sale (AFS) category. Most banks transferred long-dated G-Secs to the held-to-maturity (HTM) category by taking big one-time provisioning hits over the last two years. This helped to insulate their income statements to an extent.

    Banks have also been gradually reducing the tenor (duration) of their investments to de-risk their investment portfolios against interest rate volatility. Those that still hold a large proportion of their investments in the AFS category have taken hits in 4QFY07, though lower than that in 4QFY06. In 4QFY07, the rise in shorter-end paper (2-year) has been steep compared with longer-tenor paper (10-year G-Sec). PSU banks that have a relatively high proportion of their books in AFS as compared to their private sector counterparts are expected to bear the maximum brunt of treasury provisioning. We would however suggest investors to do away with certain misnomers with regard to the banking entities' treasury portfolios.

    Firm G-Sec yields to aggravate losses
    While the G-Sec yields have remained high until March 2007 (demand for funds remains strong in March every year), we expect the rates to moderate from FY08. For FY08, the government has budgeted net market borrowings of Rs 1,096 bn, a marginal jump of 2% YoY. This reflects the comfortable deficit management by the government without resorting to excess borrowings. Thus, the overall supply of G-Secs during the next year could be contained.

    Due to surplus investments in SLR (statutory liquidity ratio) securities and strong credit growth, Indian banks have not been buying bonds over the last two years. Instead, they have been using the incremental deposits and excess SLR investments to fund their credit growth. We believe that from FY08 onwards, banks will turn net buyers of G-Secs, as the current strong credit demand has exhausted their surplus holdings of government securities for the first time in recent economic history. Also, it would limit the RBI's ability to inject liquidity through open market operations by purchasing bonds from banks having surplus SLR. We believe that the requirement of minimum SLR will result in banks having to buy bonds, resulting in softer yields in FY08. Resultantly, the possibility of banks booking treasury losses due to higher G-Sec yields remains capped.

    Treasury hedge
    HTM (%) 70.0 75.1 77.8 35.4
    AFS (yrs) 2 3 2 3
    Investment deposit ratio
    (%) SBI PNB BoB OBC
    FY06 58.3 47.9 52.1 41.5
    FY07E 38.3 32.0 33.1 30.3

    Inflation to trigger higher SLR...
    We do not expect the Reserve Bank of India (RBI) to take any step in the direction of reducing banks' SLR in the near-term, as it battles inflation. Immediate lowering of the SLR ratio would mean fuelling strong credit growth as well as inflation.

    The improving fiscal situation reflected in reducing deficits coupled with higher allocation from insurance companies and mutual funds towards government securities, however, implies sufficient availability of funds in the government securities market. We believe that there is, in fact, a case for the government to lower the SLR requirement (currently 25%) for banks in the medium term. The recent ordinance passed in the Union Cabinet allowing the RBI to reduce the floor in SLR substantiates this view.

    This would be extremely positive for banks, as any reduction in SLR requirement would translate into higher margins - since the yield on loans is nearly 300 basis points (3%) higher than the yield on G-Secs. This would, in turn, have a positive effect on banks' return on assets and return on equity besides favouring their valuations. Additionally, lower SLR would also imply that sensitivity of banks' financials to interest rate moves would reduce. On the same note, earnings volatility could reduce, which would act as another sweetener.

    Yield differential (%)
    Incremental yield on loans 11
    Incremental yield on G Secs 8
    Difference in yields 3
    Increase in Interest income with… (%)
    3% reduction in SLR 9
    5% reduction in SLR 15

    Our analysis of the banking sector's treasury portfolio points out towards muted risk on this ground. However, the same does not in any way de-risk the sector from other perils of rising delinquency and depression in net interest margins with the rise in cost of funds. Investments in the sector, hereon, have to therefore factor in astute estimations of the possible downsides to the banks' valuations due to each of these risks.



    Equitymaster requests your view! Post a comment on "Banking: Treasury misnomers...". Click here!


    More Views on News

    IDFC Bank: Strong Trading Income Shields Credit Slowdown (Quarterly Results Update - Detailed)

    Aug 10, 2017

    IDFC Bank is taking steps to address contracting NIMs and successfully transition in to a retail bank.

    ICICI Bank: Loan Slippages Trending Downwards (Quarterly Results Update - Detailed)

    Aug 10, 2017

    Asset quality will be the key thing to watch out for going forward.

    Axis Bank: Outside Watchlist Slippages a Big Worry (Quarterly Results Update - Detailed)

    Jul 31, 2017

    Almost 74% of the watchlist as provided by the bank of Rs 226 billion in FY16 has turned into non-performing assets.

    Should You Take SBI Chief's Advice and Load up on SBI Shares? (The 5 Minute Wrapup)

    Jul 6, 2017

    Does the stock score on the value versus price equation?

    AU Small Finance Bank Ltd. (IPO)

    Jun 27, 2017

    Should one subscribe to the IPO of AU Small Finance Bank Ltd?

    More Views on News

    Most Popular

    Demonetisation Barely Made Any Difference to Tax Collections(Vivek Kaul's Diary)

    Aug 7, 2017

    The data tells us quite a different story from the one the government is trying to project.

    A 'Backdoor' to Multibaggers: It's Like Investing in Asian Paints Ten Years Ago(The 5 Minute Wrapup)

    Aug 10, 2017

    Don't miss these proxy bets on growing companies or in a few years you will be looking back with regret.

    Should You Invest In Bharat-22 ETF? Know Here...(Outside View)

    Aug 8, 2017

    Bharat-22 is one of the most diverse ETFs offered so far by the Government. Know here if you should invest...

    Signs of Life in the India VIX(Daily Profit Hunter)

    Aug 12, 2017

    The India VIX is up 36% in the last week. Fear has gone up but is still low by historical standards.

    7 Financial Gifts For Your Sister This Raksha Bandhan(Outside View)

    Aug 7, 2017

    Raksha Bandhan signifies the brother-sister bond. Here are 7 thoughtful financial gifts for sisters...

    Copyright © Equitymaster Agora Research Private Limited. All rights reserved.
    Any act of copying, reproducing or distributing this newsletter whether wholly or in part, for any purpose without the permission of Equitymaster is strictly prohibited and shall be deemed to be copyright infringement.

    LEGAL DISCLAIMER: Equitymaster Agora Research Private Limited (hereinafter referred as 'Equitymaster') is an independent equity research Company. Equitymaster is not an Investment Adviser. Information herein should be regarded as a resource only and should be used at one's own risk. This is not an offer to sell or solicitation to buy any securities and Equitymaster will not be liable for any losses incurred or investment(s) made or decisions taken/or not taken based on the information provided herein. Information contained herein does not constitute investment advice or a personal recommendation or take into account the particular investment objectives, financial situations, or needs of individual subscribers. Before acting on any recommendation, subscribers should consider whether it is suitable for their particular circumstances and, if necessary, seek an independent professional advice. This is not directed for access or use by anyone in a country, especially, USA or Canada, where such use or access is unlawful or which may subject Equitymaster or its affiliates to any registration or licensing requirement. All content and information is provided on an 'As Is' basis by Equitymaster. Information herein is believed to be reliable but Equitymaster does not warrant its completeness or accuracy and expressly disclaims all warranties and conditions of any kind, whether express or implied. Equitymaster may hold shares in the company/ies discussed herein. As a condition to accessing Equitymaster content and website, you agree to our Terms and Conditions of Use, available here. The performance data quoted represents past performance and does not guarantee future results.

    SEBI (Research Analysts) Regulations 2014, Registration No. INH000000537.

    Equitymaster Agora Research Private Limited. 103, Regent Chambers, Above Status Restaurant, Nariman Point, Mumbai - 400 021. India.
    Telephone: +91-22-61434055. Fax: +91-22-22028550. Email: info@equitymaster.com. Website: www.equitymaster.com. CIN:U74999MH2007PTC175407

    Become A Smarter Investor In
    Just 5 Minutes

    Multibagger Stocks Guide 2017
    Get our special report, Multibagger Stocks Guide (2017 Edition) Now!
    We will never sell or rent your email id.
    Please read our Terms


    Aug 18, 2017 (Close)