Banks to revive take-out finance: Study

Funding long-term assets like infrastructure and homes with resources (mostly deposits) having short tenures has landed banks in a spot.

This is expected to drive them in 2011 to “take out” long-term loans from their books and transfer to other institutions to manage the asset-liability mismatch, according to a Dun and Bradstreet report.

Take-out financing, it says, is expected to revive on the back of infrastructure growth. It is a method of providing finance for long projects (say 15 years) by sanctioning medium-term loans (five-seven years). It involves an understanding that the loan will be taken out of the books of the financing bank within a pre-fixed period and taken over by another institution, thereby preventing any possible asset-liability mismatch, as most liabilities of banks are in the form of deposits with tenures of less than five years.

According to the Reserve Bank of India data, in financial year ended March 2009, only around 7.4 per cent deposits had a maturity period of more than five years.

After taking out the loan, the institution can off-load it to another bank or keep it. Although the concept has witnessed teething troubles, a revival is expected given that RBI is expected to allow tapping of external commercial borrowings for takeout financing.

India Infrastructure Finance Company Ltd is already working on a proposal to take infrastructure loans of commercial banks on its books.

Another theme expected to drive banks in 2011 is investment in commercial papers (CPs) floated by companies. CP is a short-term money market instrument essentially used to finance working capital requirements.

Indian banks moved to the base rate system from July 2010 from the PLR (prime lending rate) regime. The base rate is calculated as the cost of deposits and the cost of keeping aside cash for meeting cash reserve and statutory liquidity ratios.

With bank barred from lending below the base rate, non-banking finance companies and companies with better ratings are issuing CPs to meet short-term capital requirements for tenures ranging from 15 days to 365 days.

Since interest rates on CPs are linked to the yield on the one-year government bond, they turn out to be cheaper than banks loans for companies with good ratings. The last few months’ data support this. Banks’ direct investment in CPs rose from Rs 27,500 crore in July 2010 to Rs 43,800 crore in September 2010. In terms of the share, the investment rose from 1.7 per cent of total to 2.5 per cent.