'Risk does not manifest in isolation', say senior managers at banks

Senior managers at banks looking after risk management see increasing use of sophisticated technology tools to effectively manage asset-liability as speed is of essence in a fast-changing market environment. This became clear from the collapse of Silicon Valley Bank (SVB) in the US. Setting off the discussion on liquidity among a panel, that included Alok Gupta, Head of Risk Management at IndusInd Bank; Biju P, Chief Risk Officer (CRO) at South Indian Bank; Damodaran C, CRO at Federal Bank; B S Venkatesha, Deputy Managing Director, CRO at National Bank for Financing Infrastructure and Development (NaBFID); Mahesh Kutty, Assistant CRO at DCB Bank; Wilson Yap, Director & Head of Risk Banking Solutions, Asia at SAS; and Aakriti Vyas, Senior Manager, Financial Services and Risk Management, EY India, Tamal Bandyopadhay put the current conditions in perspective. He said the system does not have any liquidity crisis but a crunch, given the government’s Rs 15-trillion plus borrowing programme. Edited excerpts:

Are we making too much or is this a problem when it comes to deposits as discussions are about asset & liability management?

Gupta: In the past few years, credit growth has been much faster than deposit growth. While there is liquidity in the system — seen in liquidity coverage ratio (LCR) — the concern is about durable liquidity. So, there is a race for deposits more from retail and small business customers. This is considered to be more durable and remains stickier in any crisis. What we have seen in the case of SVB was reliance on bulk depositors. In case of stress, you suddenly find it difficult to counter that. There was complete erosion on the asset side.

Biju: During Covid, banks were awash with liquidity with limited avenues for lending. They were putting that money in government securities. In the last year (2022-23), when the policy repo rate reversed, things began to change. The push for deposit raising came in the second half of FY23. Unlike the past — when banks garnered short-term deposits — they are targeting stable deposits, which can support liquidity management for a reasonable period. There has been a paradigm shift in Indian banking at least in the last one year.

More than assets, is it liquidity, which is the prime concern? Is that the correct way of looking at it?

Damodaran: I beg to differ on the contention that banks had ditched the depositors at some point of time. Even when interest rates were at rock bottom during Covid, banks were paying some decent rate to depositors. It may not be at the level that we are seeing now. At present, the credit-to-deposit ratio (CD ratio) is heating up and you need to pitch more deposits. Depositors are well educated and have many investment avenues. That is the situation we are seeing now.

About two years ago, one had to use a magnifying glass to see interest rates on deposits. Now, they are ruling above eight per cent. What is happening to asset-liability management systems?

Venkatesha: My institution is not allowed to take customer deposits. My main source is the market. In the initial days of this financial year, it was a very tough situation for raising long-term resources as rates were high. Now, the liquidity is easing out and bond issuances have already started. The vacuum is getting created because of HDFC’s merger with HDFC Bank. Probably, NaBFID will be filling that space, looking at the plans we have for long-term lending. Earlier, the focus was on how to manage huge surplus liquidity during Covid. Instead of putting money in reverse repo, we were giving money to top corporations at throw away prices. This is now slowly reversing.

Kutty: There is a definite shift in customer preference over bank deposits, which is creating challenges in their growth. The base effect is also working. We were flush with funds during Covid. Now, if you look at growth per se, the granular deposits are coming up. The pace of deposit growth is improving with inching up of interest rates. So, I do not see any systemic issue from the deposit side.

What is the role of technology in asset-liability management (ALM), particularly in India, where we are at the forefront in the payments systems?

Yap: We are in the midst of a crisis. Not in India but on the other side of the ocean. Every time there is a banking crisis, we have a lot of questions about what you can do as a solutions provider. In ALM, speed is the essence. SVB failed in 48 hours.

How long do you think the ALM solution should run? So, a lot of this is about process. How fast can you go? With modern technology like Cloud computing, you can do processing very fast.

The second thing we see: The ALM system is taking away from the business side. It becomes an information technology project and gets locked up. It takes time for analysts to run any kind of simulations before they get a result. Around 10-20 years ago, analysts sat before the ALM system and did many kinds of simulation. They could run the results and have a look at them and do hedging at the end of day. These days, everything is locked up. When you need to make a change, you need to make a request and get approval. You get the results a few days later. So, without timely information, analysts can’t react to the market. Some of the banks have gone beyond just looking at ALM, which focuses on interest rate and liquidity risks. The risk does not manifest in isolation. Look at the last financial crisis. It did not start as a liquidity crisis. It started in the credit market for subprime. In the case of SVB, it started off as an interest rate risk mismanagement.

Speed is the essence. Aakriti, what is your take from a consulting point of view. How do Indian banks prepare themselves?

Vyas: Banks want technology to be agile and nimble. How is that going to be applied to ALM? There are three key aspects regulators (in the US) are talking to banks about. The first is sensitivity analysis. Your ALM capability should allow you to understand which of the assumptions are most sensitive to the interest rate changes and then monitor them. Second is the back testing. A bank should be able to do this on a more frequent basis. SVB is a great case in point. There, models were telling banks net interest income (NII) will increase. What was happening is that NII was decreasing because they were replacing non-interest bearing deposits with interest-bearing high-yield broker deposits. Finally, scenario analysis. The systems would have configured assumptions and calibrated models. But when you see the shift in the interest rate regime, you may want to test other interest rate options for greater magnitude shocks.