RBI’s draft rules may improve corporate bond market

Senior bankers said such a move by the central bank would save lenders from making mandatory additional provisions to make up for potential mark-to-market losses. “In the new regime, banks will have the freedom to hold more investments, including corporate bonds, in the HTM category. Profit and Loss (P&L) account will not be allowed to be taken from the sale proceeds from HTM. Instead, it has to be taken directly to the reserve. Apart from this, there will also be a ban on selling from HTM. Hence, these changes are likely to have an impact on the reported P&L of banks,” said Neeraj Gambhir, Group Executive- Treasury, Markets and Wholesale Banking Products, Axis Bank.

RBI has also proposed removal of the investment limit in HTM as a percentage of the total investment, and also removed the cap on holding Statutory Liquidity Ratio (SLR) securities. This may prompt banks to buy more bonds for both government and corporates, thereby increasing the investor base for such securities.

Bankers also believe that the existing guidelines may also reduce the losses on the trading book of banks. For example, under the extant guidelines, investments made in the AFS (Available for Sale) category in a rising interest rate scenario would have led to higher provisions. This will not be required under the proposed guidelines as the MTM provisions will not affect the P&L accounts of the banks.

“For AFS category, earlier, if there was MTM benefit, it was ignored. Any MTM loss was taken as a provision in the P&L account. The new draft guidelines make the treatment of MTM profit and loss for AFS category symmetric in the sense that whether it is profit or loss, both will be credited through reserve account, without P&L,” Gambhir said.

That said, some bankers are wary of holding all their investments till maturity as it reduces their credit exposure and their ability to manage risk.

“Banks would be very wise to put anything in HTM because once they do, the ability to manage risk is substantially reduced. You can’t sell from HTM. My understanding is that when the boards sit and If you look at those constraints, they will see that putting corporate bonds in HTM is a challenge. If you put corporate bonds in HTM, you cannot count it in LCR (Liquidity Coverage Ratio). No repo market for corporate bonds Badri Niwas, Country Treasurer and Head – Markets and Security Services, Citibank, South Asia, said.

Banks are also seeking to clarify whether it will be mandatory for them to sell their investments through profit and loss account (FVTPL) at fair value within 90 days, as is the case at present. The FVTPL book may hold investments such as securitization receipts, mutual funds, alternative investment funds, equity shares, derivatives (including those made for hedging), which have no contractually specified periodic cash flows and where only principal and interest are paid. The payment is to be placed on the outstanding principal.