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Banks face mark-to-market risk in bond holdings: RBI

Banks face mark-to-market risk in bond holdings: RBI

01 Jul 2021

MUMBAI: Banks face the risk of higher mark to market losses in their bond holdings amid likely rise in rates. They may mitigate such risk through the Government Securities Acquisition Programme (GSAP), a central bank’s dedicated bond buying window.

“Any hardening of interest rates would depress investment income under the AFS and HFT categories (direct impact),” the Reserve Bank of India said in its Financial Stability Report.

Trading profits reduced across all bank groups during the January-March period last financial year, driven by yield movements. During the period the benchmark bond yields surged 30 basis points pulling prices down.

“An increase in PV01 sensitivity and adverse movement of the yield curve, if any, may affect banks’ trading profit going forward,” RBI said.

PV01 describes the actual change in price of a bond if the yield changes by one basis point. Higher the PV01, the higher would be the volatility.

The first version of GSAP was conducted during April-June this year. The RBI announced a second version on June 4 for the second quarter.

Along with enhanced Held-to-Maturity (HTM) limit, according to the RBI it should help cushion mark-to-market losses for banks.

The central bank had earlier increased limits under the HTM category to 22 percent from 19.5 percent of total deposits. Holding securities in HTM nullifies risk of mark-to-market. The dispensation was supposed to expire on March 31, 2022 but has been extended by another year to 2023.

It is assessed that a parallel upward shift of 2.5 percentage points in the yield curve would lower the system level Capital to Risk-Weighted Asset Ratio (CRAR) by 84 bps and system level capital would decline by 6.3 percent,” it said.

Muted credit demand gave a booster dose to banks’ investment in government bonds. In March this year, it shot up to a decadal highest level.

During 2008-21, however, the share of banks in total central and state bonds holdings has gradually declined, falling steadily from 51.0 per cent in 2008 to about 36.4 per cent in 2021, show RBI data.

Insurance companies and provident funds have stepped up their investments.