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How rising yields will dent bank earnings

By Saikat Das

MUMBAI: For India's banking industry se..

By Saikat Das

MUMBAI: For India's banking industry seeking to overcome the mounting pile of bad loans, there is another challenge just ahead of the new year: Rising bond yields.

The bond portfolio of local lenders is vulnerable to mark-to-market losses, with the hardening of yields in Asia's third-biggest economy. The sudden spurt in yields, dragging bond prices lower, may have dented investment income at banks, and the declines may reflect in their quarterly earnings.

The benchmark bond yield climbed about 56 basis points during the October-December quarter. The yield is likely to rise further, with New Delhi planning to borrow an additional Rs 50,000 crore via sovereign bond sales, signaling what dealers described as weakness in fiscal health.

Bond yields and prices move in opposite directions.

"Surging bond yields are likely to dent bank earnings next quarter," said Sanjiv Bhasin, EVP-Markets & Corp Affairs, IIFL. "Many banks may be incurring mark-to-market losses with increasing bond yields as the spurt is quite unexpected. Most bank shares should show some short-term pain as there is no immediate sign of business growth."

The yield may touch 7.50% from 7.22% now, resulting in more mark-to-market losses in the next few weeks.

The Reserve Bank of India (RBI) has put 10 public sector banks, including Bank of India, Dena Bank, Central Bank of India, and Uco Bank, under the prompt corrective action (PCA). PCA imposes significant restrictions on business growth unless a bank demonstrates better financial performance on set parameters.

"Public sector banks are likely to be hit more with surging bond yields," said Ajay Bodke, CEO & Chief Portfolio Manager (Portfolio Management Services) at Prabhudas Lilladher. "In the absence of credit growth, banks seem to have invested more in government securities. Those banks holding excess SLR will see heightened erosion in their investment books."

With muted loan growth, many banks have invested in government securities, as state-owned entities are traditionally a bit reluctant on riskier equity exposure.

Banks are mandated to invest a share of deposits in sovereign bonds. It is called Statutory Liquidity Ratio or SLR. Lenders, particularly government-owned banks, currently hold about 4-5 percentage point more than the mandated 19.5%.

The impact of losses could be relatively lower in the December quarter compared to the March quarter due to the year-on-year base effect. Last year, demonetisation had caused operating margins at Indian banks to shrink.

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