Banks mull CD curve for term money market

To discuss idea with RBI, feel move could bring better transparency, pricing

In a move that could bring more transparency in the term money market and lead to better pricing, treasury officials of banks are planning to come up with a Certificate of Deposit (CD) curve for inter-bank lending and borrowing of maturity tenures up to a year.

Currently, CDs are priced through negotiations and the rates are decided according to the demand, supply and credit risks involved.

"This would bring in more transparency and also lead to better pricing. It will also help in the development of a term money curve, which is not there currently. This curve may also be used for pricing of Commercial Papers and deciding the rates in short-term lending by banks to companies," said N S Venkatesh, chief general manager and head of treasury at IDBI Bank.

According to treasury officials, most banks have agreed to this idea and the matter will soon be discussed with the Reserve Bank of India (RBI). This CD curve can be used for tenures ranging from 15 days to a year. As defined by the central bank, term money deals in funds from 15 days to a year.

The CD curve will be based on the dealt rates on the deal reporting platform of the Fixed Income Money Market and Derivatives Association of India. The CD curve could serve as a benchmark.

Currently, the market has a government securities curve based on similar lines.

Speaking about the advantages of the CD curve, Mohan Shenoi, president, group treasury and global markets, Kotak Mahindra Bank, said marked-to-market (revaluation to reflect current value) becomes relevant if CDs are coupon bearing. In the RBI guidelines, a CD issued at a discount on face value need not be marked-to-market. Yet, the central bank also permits coupon bearing CDs.

According to Shenoi, once the CD curve stabilises, the market can also get a rupee-interest rate swap with the three-month CD rate as the floating rate. By RBI definition, over-the-counter rupee interest rate swaps are basic ones, fixed to floating swaps where a market-determined benchmark rate is used as the floating rate.

However, some experts feel the proposed idea might not be a success, as it cannot be compared with the government securities curve. "There is no credit risk for government securities. Here, this curve does not take into account the credit risk involved and the demand and supply factors," said Ajay Manglunia, senior vice-president, Edelweiss Securities.

He says this curve can be used successfully if hedging of credit is done through credit default swaps.

PLOTTING THE CURVE

* Certificate of Deposit (CD) curve to be used for inter-bank lending and borrowing

* Most banks have agreed to the idea

* CD curve can be used for 15 days to one year

* Dealt rates of CDs will be used to plot the curve

* CD curve will serve as a benchmark