Will The Debt Buyback Plan Be Beneficial For Banks?

Time to manage rate risk

NILESH SHAH

CIO,

Templeton AMC

The Reserve Bank of India (RBI) conducted swap of high coupon illiquid government securities with low coupon liquid government securities on July 19.

The banks and insurance participated on negotiated dealing system offering their securities for such a swap.

The RBI will decide the cut-off based on market participation and the premium the government has set aside for this purpose.

The buyback of bonds is providing an opportunity to banks to clean up their balance sheets by realising the revaluation book gains to appropriate the non-performing assets and increasing the proportion of tradable liquid securities in their portfolio.

 

We expect good response from nationalised banks for this buyback scheme.

The government has set a minimum discount of at least 7.5 per cent to the market price of these illiquid securities to partially get a compensation for the tax benefits provided.

It is a fair number and shows the commitment of finance ministry to improve the health of Indian banking sector as the tax rates for most of the banks is much higher than this.

Another important factor, which will determine the response, is what kind of asset cover the banks have on the bad loans.

Typically, weaker banks would have lower asset covers and are likely to get more benefit from this scheme.

The estimates are that the nationalised banks will be holding about 30 per cent to 40 per cent of the outstanding stock of these illiquid securities.

An insignificant part of it will be with the foreign banks, which are unlikely to participate in a meaningful manner.

For the banks, selling these bonds in this quantum in the market would have been very difficult.

This is a great opportunity to realise the revaluation gains and manage interest rate risk more effectively with the replacement of illiquid bonds by liquid bonds.

A significant portion of this securities will be with the insurance companies who have no material benefit from such a scheme.

In fact it can create some asset liability mismatch and result in a gap for the insurance companies and could expose them to the reinvestment risk.

The insurance company may participate on a token basis. The market estimates on total premium the government is willing to pay while buying back the securities is about Rs 5,000 crore.

And looking at this statistics it is likely to be more than enough for the expected response.

The government is also a beneficiary in this exercise. The health of the Indian banking sector will improve with lower NPAs. This will give added flexibility to the banking sector to disburse credit which augurs well for overall growth.

The government also benefits by capitalising on the current lower interest rates, at which they are discounting the future interest outflows.

The annual budget will see reduction in interest outgo by approximately Rs 5,000 crore. The government will also be able to lengthen the maturity profile of its debt.

For the debt market, it will add even more liquidity in the form of premium paid in cash. The market will wait for the RBI