Why the buoyancy in g-Sec markets augurs well for public sector banks

With lower g-sec bond yields, banks may see Rs 10,500 crore MtM profits

Even as the markets are worried about the inability of banks to fully transmit the recent rate cuts by the Reserve Bank of India (RBI), there is a bonanza in the offing for public sector banks (PSBs). The decline in government bond (G-Sec) yields is likely to boost earnings of PSBs in the June quarter (Q1). Rate cuts in the past three consecutive monetary policy meetings and an accommodative stance by the RBI in the recent policy announced on June 6 have cheered the G-Sec market. 

Yields on the 10-year G-Sec have dropped 35 basis points (bps) since the end of March to 7 per cent now. Yields are inversely related to bond prices, thus, lower yields indicate improvement in bond prices. As PSBs are major investors in the G-Sec market, they tend to benefit when bond prices rise.

According to the rules, PSBs are required to account for a change in market prices of bonds (mark-to-market or MtM) held under the available for sale (AFS) category on a quarterly basis. AFS carries a large chunk of PSBs' investment book. For instance, AFS of top PSBs such as State Bank of India (SBI), Punjab National Bank and Bank of Baroda accounted for 32-43 per cent of their respective investments as of March 2019. 

Anil Gupta, head of financial sector ratings at Icra, says a 10-bps change in the G-Sec yields brings a Rs 3,000-crore impact on the market value of G-Sec for PSBs. Thus, if the G-Sec yields remain at the current level of 7 per cent at the end of the June quarter, it could boost earnings of PSBs by Rs 10,500 crore or about 13 per cent of the total provisioning and contingencies of PSBs (excluding Vijaya Bank and Dena Bank) in Q4. The exact benefits, however. would vary from bank to bank.

Supportive bond markets in the past two quarters have enabled PSBs to either recover the MtM provisioning made during the first two quarters of FY19 or sharply lower the same. The country's biggest lender, SBI, reported gains of Rs 762 crore on G-Sec investments in FY19, as against Rs 8,088 crore of MtM loss in FY18. 

Yet, PSBs' Q4 net profit was affected by additional provisioning due to bad loan ageing. Though operating profit before provisioning and contingencies of PSBs surged 33 per cent year-on-year, the state-owned lenders reported net loss of Rs 27,536 crore on an aggregate basis. Barring six banks — SBI, Oriental Bank of Commerce, Syndicate Bank, Bank of India, Bank of Maharashtra and United Bank of India — all other PSBs reported net losses in Q4. The aggregate numbers do not include Dena Bank and Vijaya Bank. However, Q1FY19 onwards, the pain on account of bad loan provisioning is also expected to ease as analysts believe the NPA cycle has peaked.

Inflation and crude oil prices are key factors for the bond markets. However, given the current inflation print is within the comfort level of the RBI and unless gross domestic product growth recovers sharply (unlikely in the near term), chances of further rate cuts are higher, said experts. On the day of the recent policy announcement, the yield on the 10-year G-Sec reached to its lowest level since the end of November 2017.

Overall, at least for the ongoing quarter, the G-Sec markets are likely to be in favour of PSBs. Among PSBs, SBI remains the top pick of most analysts.