Finance ministry asks public sector banks to share bond portfolio data

The Union finance ministry has asked public sector banks (PSBs) to furnish details of their bond portfolios ahead of their meeting with Finance Minister Nirmala Sitharaman on Saturday, amid the turmoil in global banks.

As an exercise to determine the resilience of banks against interest-rate risks, the ministry has specifically requested details on holdings under the held-to-maturity (HTM) and available-for-sale (AFS) portfolios, bankers said.

While the HTM portfolio protects banks from potential losses on bond holdings, the government wants to ascertain how banks will respond in the case of large bond sales from that book, sources said.

Sitharaman will hold a meeting with all PSB heads on Saturday where she will review their work, including lending to infrastructure and flow of cash transfers to beneficiaries under various government flagship schemes.

The Silicon Valley Bank episode was primarily triggered by the adverse consequences of sharp rate increases by the US Federal Reserve on the value of the bank’s bond holdings. Bond prices fall when yields rise.

“HTM is a protected portfolio in India from the MTM perspective. From the finance ministry side, this is a stock-taking measure to establish what could be the hypothetical losses if banks were in a situation where they would have to sell from their HTM portfolio,” a banker said on condition of anonymity.

“It is being done in response to the Silicon Valley Bank crisis. For instance, if a bank bought a bond during the demonetisation period in 2016-17 when yields fell sharply – they would have bought the bond at around 6 per cent yield or so. Now of course, yields are much higher. So hypothetically, those securities would be at a loss,” the banker said.

Indian banks are large holders of government securities as the banking system must compulsorily maintain the Statutory Liquidity Ratio (SLR), primarily through investment in government bonds. The current requirement is 18 per cent of net demand and time liabilities, or deposits. Since the outbreak of the Covid pandemic, banks bought bonds well in advance of the SLR requirement as credit growth was low and liquidity in the system was maintained at a huge surplus.

The HTM portfolio provides banks protection from interest rate risks as securities kept in this portfolio do not have to be marked to market. During the pandemic, the RBI increased the limit on HTM portfolios in order to help banks better manage bond holdings amid a huge increase in debt supply.

The other two portfolios are the AFS book and the held-for-trading (HFT) book. These two portfolios are marked to market and hence are at risk of losses when yields rise. Securities from the AFS book can be sold at any time, while those in the HFT book must be sold within 90 days. The AFS book is marked to market every quarter.

About 60 per cent of banks’ investment book is in the HTM portfolio, analysts at Macquarie Research wrote. As on February 24, scheduled commercial banks’ investment in central and state government securities was at Rs 53.37 trillion, up from Rs 46.69 trillion a year ago, the latest RBI data showed.

“In general, the RBI looks at what is happening to a bank’s AFS portfolio. But even from that point of view, banks are mostly in a stronger position. Yields may have risen in 2022 because of RBI rate hikes, but they have also come off sharply from the highs we saw in June 2022,” a source said.

In the Indian context, a rise of one basis point in the yield of the 10-year benchmark government bond corresponds to a fall in price of roughly 7 paise. Prices of longer maturity securities move sharper relative to a minor movement in yields, thus posing a greater risk to bond portfolios.

After climbing to a three-year high of 7.62 per cent in June 2022 – 117 bps higher than 6.45 per cent at the end of 2021 – the yield on the 10-year bond has retreated sharply. The 10-year bond yield closed at 7.35 per cent on Thursday. At the end of the previous quarter, the bond’s yield was at 7.33 per cent.

“At a regulatory level, the RBI institutionalised Investment Fluctuation Reserve some years ago, so the approach to handling interest rate risk has changed significantly,” one of the sources quoted above said.