Maintain derivatives records for at least 2 years, RBI asks banks

In case of commercial papers and bonds, there will be no grace period for repayment

The Reserve Bank of India (RBI) has asked banks dealing in derivatives such as credit-default swaps to maintain their records for at least two years, and not to handle products that they, as market-makers, cannot price independently. 

All pricing and periodic valuations of derivatives have to be documented, and if an established model is used, its details have to be understood and documented.

In case something is non-observable or subjective, its use must be justified and calculations documented.

The seller of the product has to undertake due diligence about the buyer, and only products that are in sync with the customers’ objectives and risk appetite can be sold.

“A product shall be offered only to those users who have the necessary knowledge and experience to understand the nature and risks of the product; and who have the financial ability to bear these risks,” a draft guideline released by the RBI on derivatives said.

Besides, the user should have the business, financial operations, skills, sophistication, risk management framework, and internal policies consistent with the product being offered. This means that derivatives the customer doesn’t understand well cannot be sold. If they are, any loss would be the liability of the seller, said experts.

GUIDELINES

• Derivatives can be only sold to those who understand and need the product 
• Sellers will have to give detailed beak-up of product pricing
• There will be no grace period for repayment of bonds
• In case of default, issuers won’t be allowed to access markets for six months after settling their full payments 
• In case of a default, the issuer has to mention it on their website

The central bank on Friday said it would announce draft guidelines for derivatives, including credit-default swaps, which a buyer buys as an insurance against default.

Similarly, the central bank issued draft guidelines for money-market instruments including certificates of deposits (CDs) and commercial papers (CPs). In its policy, the central bank has allowed regional rural banks to participate in the RBI’s daily liquidity adjustment facility.

The central bank made it clear there would be no grace period for repaying CPs and non-convertible debentures (NCDs, or corporate bonds). The issuer should make funds available for redemption available to the debenture trustees by 4 pm on the redemption date.

It said entities issuing Rs 1,000 crore or more in a year must get credit ratings.

“The issuer who has defaulted on the repayment of a coupon/redemption, partially or in full, of a CP and/or NCD shall not be allowed to access the respective market from the date of default (for) six months after the complete repayment of the defaulted obligation,” a draft guideline said.

For the following six months, the issuer will need to obtain ratings from at least two credit-rating agencies for any fresh issue, “irrespective of the amount of total issuance during the financial year, subject to otherwise meeting all conditions for issuing CPs/NCDs”.

“There will be no grace period for repayment of CPs/NCD,” the RBI specified. If there is a default, it should be communicated to the debenture trustee and rating agencies by 5.30 pm, and the information should be publicly disseminated and mentioned on the issuer’s website.

“The IPA (issuing and paying agent) shall ensure that partial repayments, if any, are distributed to investors in proportion to the investment made in the CPs or NCDs,” the draft guidelines said.

In its draft guidelines, the RBI said CDs and CPs should be issued in minimum denominations of Rs 5 lakh and its multiples. The tenor will be at least seven days and should not exceed a year.

While CPs are to be issued at a discount to the face value, NCDs should be used with fixed or floating rate coupons.