Banks may incur MTM losses as yields shoot on higher borrowing

A surge in the yields on government securities in the last two working days of the current quarter will mean that the banks will now face the possibility of incurring mark-to-market losses on their investment, experts said on Friday.

The government had yesterday announced a higher-than-planned borrowing programme for the second half of the current financial year. As a result, the yield on the 10-year benchmark government bond shot up 10 bps to close at 8.4 per cent, while yields on the second-most liquid security, the 11-year paper, went up by 8 bps. The market was not anticipating Rs 53,000 crore of extra borrowing by the government, which pulled the bond prices down.

According to dealers, the most hit will be the banks that bought papers in the expectation that yields will cool off. This is because the government has been maintaining that it would stick to the budgeted borrowing target of Rs 4.17 lakh-crore this financial year. According to the issuance calendar, government borrowings will be at Rs 4.7 lakh crore this financial year.

“There may be an MTM hit, as yields have hardened over the last quarter,” says T S Srinivasan, general manager, Indian Overseas Bank. This is the third quarter in line when hardening yields will hurt banks’ treasury. “Yields may cross 8.5 per cent unless RBI opts for a buyback in coming months. The yield curve will steepen now, as there are more issuances in 10-14 years’ category than smaller durations,” he adds.

As mandated by the RBI, banks cannot hold more than 25 per cent worth of demand and time liabilities in held-to-maturity category. Banks need to provide mark-to-market for securities held in available-for-sale and held-for-trade categories and not for HTM category.

On Wednesday, RBI deputy governor Subir Gokarn issued a hawkish statement, pushing the yields go up, as the country’s central bank declined to indicate any signal of pause in the rate hikes. RBI has hiked the key policy rate 12 times in the last 18 months – a total of 350 bps in the repo rate though effective tightening was 550 bps – to tackle inflation that hovered around the double digit mark for nearly 18 months. RBI will meet again on 25 October to review the monetary policy.

According to treasury officials, banks that had recently acquired government bonds will feel the pinch more. “The extent of the mark-to-market loss will depend on the composition of the available for sale portfolio. The bank that had recently acquired government securities will be impacted more,” notes a senior official from a public sector bank.

However, banks tend to reduce the holding in AFS and held for trade categories in rising interest rate scenario. In such case, the extent of depreciation will be limited. “Depreciation,” Pawan Bajaj, general manager, Bank of India, “may not be significant as most banks are not holding many securities in AFS category. The average tenor in AFS category is around 2.25 years.”

Going ahead, some of the bankers expect yields to come down, as the present level of yield will make government borrowing expensive.