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The Reserve Bank of India (RBI)’s steps to drain liquidity from the market would raise short-term rates such as those for bulk deposits and certificates of deposit. This, in turn, would exert pressure on the margins of banks that rely heavily on wholesale funding.
On Monday, RBI had decided to cap bank borrowing through the liquidity adjustment facility at Rs 75,000 crore. It had also raised the marginal standing facility (MSF) rate by 200 basis points to 10.25 per cent to curb exchange rate volatility. The measures would be effective from Wednesday.
Both call money and bulk deposit rates rose on Tuesday, with the overnight rate---which is hovering around the repo rate—seen to be adjusting towards the MSF rate.
“Mostly, banks that have high reliance on wholesale deposits such as certificates of deposit would be impacted, as bulk rates would increase following the RBI measures aimed at draining liquidity from the system,” said Saday Sinha, analyst with Kotak Securities.
Analysts say private lenders such as YES Bank and IndusInd Bank would be affected if short-term rates rise. “We expect these (RBI steps) to result in higher money market rates (short-term wholesale rates). Depending on demand-supply conditions, the overnight interbank (call money rate) could move up to as much as 300 basis points above the policy rate. This, in turn, will result in higher CD (certificates of deposit) and CP (commercial paper) funding rates. In terms of direct impact, it hurts banks that rely on these markets (YES Bank and IndusInd), as well as NBFCs (non-banking financial companies),” Barclays said in a report.
Public sector banks are expected to fare better than some of their private sector counterparts, as these have a high share of current account and savings account deposits, which are low-cost.
Union Bank of India Chairman and Managing Director D Sarkar said the bank would emphasise on loan growth to offset the impact on margins.
In the case of some public sector banks, too, there are large funding gaps, which increase vulnerability during liquidity shocks. As a result, banks would need to rebalance asset-liability positions by issuing long-term liabilities.
“We expect banks’ borrowing at the short end of the curve to be negatively impacted. According to the annual reports recently published, the banks with significant negative gaps in the 91-180-day bucket are YES Bank and Axis Bank, in that order. We have a ‘sell’ on Axis Bank; we do not cover YES Bank. Since this is July, we have looked at the 91-180-day bucket for this analysis. In the case of public sector banks, while all annual reports have not yet been published, intuitively, almost every mid-sized public sector bank (Andhra Bank, Central Bank of India and Corporation Bank) and Canara Bank, among the larger public sector banks, typically borrow heavily at the shorter end of the curve,” said V Krishnan, banking analyst, Ambit Capital.
Treasury income is another concern for banks, as a rise in bond yields would force them to make provisions for mark-to-market losses. The yield on the 10-year benchmark government bond rose 50 basis points on Tuesday, closing at 8.05 per cent.
As far as treasury income is concerned, banks had a profitable first quarter, as yields on government securities came off significantly. India Ratings says now, bond yields are at the levels seen in April, substantially wiping out the gains since then.
The rating agency said banks would need to reappraise the size and duration of their trading portfolios, both of which had grown fairly aggressively in FY13, anticipating an easing monetary policy.
“Bank stocks are over-owned and could correct due to the rise in bond yields. While HDFC Bank is unlikely to see a major correction, we would regard any correction in ICICI Bank as a buying opportunity and avoid public sector banks, which would correct due to the rise in bond yields,” said Jyotivardhan Jaipuria, analyst, Bank of America Merrill Lynch.
