:SugarwareZ-299:
This week will witness outflows towards auction of government securities held last week and advance taxes.
These events may have an indirect impact on the interest rate which is poised to go up. Therefore the companies may like to wait till the interest rates stabilize before they decide to raise money from the domestic bond market.
However, banks will continue with their fund raising programme, both for their interbank regulatory requirements and finance the credit opportunities. The funds will be dearer since most of the banks will be vying for the same pie.
The secondary market demand for corporate bonds is also likely to remain lacklustre. This is because most of the banks running short of funds and first preference for investments will be government securities. Foreign banks, which have been stocking up corporate bonds especially perpetual bonds floated by banks, are away from the market due to the calendar year end.
Recap: The spread between the triple-A corporate paper and government security of similar maturity narrowed down to 100-120 basis points as against 125-130 basis points earlier. The banking sector raised around Rs 1,282 crore through certificate of deposits for the fortnight ended October 27 while corporates mobilised only Rs 239 crore through commercial papers for the fortnight ended November 15.
Government Securities
To remain bearish
The government securities market is expected to remain thin, accompanied by a sentiment bearish. Banks will be rather busy securing liquidity, and the recent hike in cash reserve ratio (CRR) by the RBI is likely to add to the panic.
This week will witness outflows towards auction of government securities held last week and advance taxes.
While Rs 18,000 crore has already been collected as advance taxes for excise, customs and services taxes, another Rs 18,000-30,000 crore will go towards advance payment of direct taxes. Over and above, banks will have to secure funds for credit since the lendable resources have been squeezed through the CRR hike.
While it is meant to curtail the excessive liquidity in the system as evident from currency in circulation and money supply, it may impact the flow of bank funds into credit. Therefore, banks will have to set aside funds towards committed loans.
In this scenario, trading in government securities is likely to remain restricted and need-based. Foreign banks, which are there in the g-sec market mostly as traders, are staying away from the market with the year draws to a close, as most of them finalise their books for calendar year closing of the parent overseas.
Even as they are largely surplus with funds, each of public sector banks has a regulatory limit as well as counterparty limit for lending to another bank.
Market players expect to see buying interest from banks, provident funds, mutual funds etc after gilt prices fall considerably.
At the global level, as the dollar is expected to depreciate against major currencies following the weak non-farm payroll data, this could push down prices of US treasury bonds.
However, a section of the market feels that US treasury bonds may see a rally since most fund managers will be parking money in fixed-income instruments such as US bonds by exiting riskier assets. Moreover, the impact of the Federal open market committee meeting will be crucial for US bonds’ yields, which will be closely monitored by the domestic gilt market players.
In this backdrop, the yield on the ten-year benchmark paper is likely to rule in the range of 7.37-7.45 per cent.
Recap: The market remained rangebound amidst lacklustre trading. There was apprehension of receding liquidity and auction. Even as both the government papers were subscribed well by the market at expected cut-off yields, banks and traders were busy preparing for liquidity rather than trading in gilts.
The trading of gilts was mostly for stocking up the papers to be exchanged with the banking regulator under the repo mechanism to borrow liquidity for the next week.
Rupee
On a seesaw
The spot rupee is likely to be on a seesaw. On one hand, the market is expecting moderate inflows – mostly in the form of portfolio investments from institutional investors.
These funds will make way into the domestic equity market, which is getting ready for big-ticket IPOs. Otherwise, no major foreign inflows are expected this week as the western world is gearing up to enjoy Christmas holidays.
On the other hand, there is not much demand for dollars from the corporate. However, if oil prices remain volatile or continue rising, the demand may go up. If the dollar-rupee levels change either owing to cross-currency impact or RBI intervention to infuse rupee liquidity, interbank may panic and cut its positions.
The dollar, globally, is expected to remain bearish against major currencies. This is because, even if the non-farm payroll data released in the US had been better than the market expectations, the manufacturing payroll data for the last month have been revised downward from -39,000 to -44,000.
This has already initiated a bout of rally in all major cross-currencies against the dollar. The week will see many a trigger. The US will release data on trade balance and the Federal Reserve will hold the open market committee meeting to spell out its stance on interest rates.
As the RBI has raised cash reserve ratio and the market is expecting a tightness in liquidity, particularly after the advance tax outflows, the rupee premia to be paid for booking forward dollars are likely to move up.
Even as the market will be thinly traded as regards to demand and supply, interbank players may stock up dollars for the future by booking them at a forward date.
Just as lendable resources have come down with a hike in CRR, the rupee interest rate may go up as banks will be reluctant to lend. Therefore, cost of booking rupees for paying dollars is also likely to rule higher.
In this backdrop, the spot rupee is expected to rule in the range of 44.50-44.80 to a dollar.
Recap: The spot rupee remained rangebound during the week, finding it difficult to break the upside limit of 44.60 to a dollar. While foreign exchange inflows were abundant in the market, the RBI was quite active in buying dollars and infusing the rupee liquidity in the market. During the beginning of the week, the rupee fell owing to tracking a strong dollar. This is because with the year coming to an end, most global fund houses are withdrawing from riskier assets and are shifting to fixed-income assets, primarily US treasury bonds.
Because of the inflows into the dollar, it appreciated against other currencies. Towards the end of the week, cross-currencies rallied against the dollar, and this also brought about a round of appreciation for the rupee against the dollar.
The premia for forward dollars remained higher owing to apprehension on the liquidity front. And since liquidity is expected to be tight owing to advance tax and auction outflows, it was factored into the rupee premia paid for booking forward dollars.
The immediate trigger for the market slide yesterday supposedly was the RBI raising the Cash Reserve Ratio of banks by 0.5%. What has been the impact of this on banking stocks? Sunil Garg, MD, Head Asia Banks & Financial Services at JPMorgan Securities give their views.
Sunil Garg expects further rate hikes. He also says that deposit rates to rise. He does not see much impact of CRR hike on earnings in the short term. He feels that PSU banks will face more pressure.
Hemindra Hazari of Karvy Stock Broking believes that the reaction to CRR hike has been overdone. He adds the banks earnings are likely to come down by 4-5%.
Excerpts from CNBC-TV18's exclusive interview with Sunil Garg and Hemindra Hazari:
Q: What are your thoughts on what the RBI has done and how this impacts deposit rates, yields and indeed lending rates for these banks?
Garg: We have been cautious on the banking sector in India from a regional perspective with a view that the RBI's monetary tightening was not over. I think the CRR increase is part of the various monetary tightening measures RBI has been taking.
Our view is that there will probably be some more rate hikes to follow as well. What it does obviously is it pushes up deposit rates, as we saw State Bank of India, just ahead of the CRR hike, raised deposit rates. The question is will banks have the ability to pass on the increase in interest rates on the lending side without necessarily impacting volume growth. I guess with liquidity supply coming under constraint next year and loan growth slowing down, we have been cautious and this sort of plays to that.
Q: What are your own expectations? Do you think these banks will struggle on the profitability front and growth front over the next one year? Do you need to be cautious there or do you think yesterday's fall actually captures all the bad news?
Garg: I think 8% fall is probably going to be a bit noisy. But I think in the very short-term, you will probably not see a huge impact on earnings, certainly in the coming quarter. But I would think that if the scenario of credit growth slowing down plays out, then there would probably be more pressure going into next year.
Q: On a stock performance basis, how would you construct the picture for the PSUs versus private banks in the next two months or so?
Garg: I have not come across a situation where if the private banks are weak, then the PSU banks have the ability to fight that. Particularly when interest rates are rising, then state owned banks have generally been under more pressure because of their heavy bond portfolios. So I think the lead would still be provided by the private banks.
Q: How much more do you see the 10 year yield rising, do you see it going back to the 8% kind of levels over the next 3 months or so from a bond market perspective?
Garg: Without wanting to be an expert in the bond market, our expectations is that this will continue to trend up towards that level. But without specifically been drawn into a level on a 3-month basis, we see the bond yield trending up on a 10 year perspective and RBI's interest rates also trending up.
Q: Are you cautious as well or not quite so?
Hazari: I am not quite cautious because the reaction that we saw yesterday was overdone. We expect that purely on just the CRR rate hike, banks earnings would come down by about 4-5% for FY08 and that is not taking into account, if they were to increase their lending rates. So that is one aspect.
The second aspect being what will happen to the bond portfolio, currently most of the PSU banks bond portfolios are hedged till about 10-year yield of about 8.1%. So I don’t think there is any immediate worry from that perspective. I think the market has overreacted and I still see the PSU banks, the underlying trend is strong and we remain positive on some of the stocks that we cover.
Q: It is zero yield though for CRR, so in terms of their margins, do you expect any impact on these banking stocks?
Hazari: Immediately of course with the CRR, when the money gets impounded, they don’t earn any yields. So obviously, it forces them to increase their lending rates on their loans.
Now, what we would and some of the bank Chairmen have indicated that they will tighten the Sub-PLR loans first. So they have to compensate for this loss of income and that is what we expect them to do. However, if they decline to do so, then obviously their margins would get impacted, which I don’t think they will do.
Q: Are you apprehensive though that this is the beginning of some more tightening over the next 3-4 months and you could see rates actually inching up higher, which might force you to relook at what the banks may actually fair out over the next 6 months or so?
Hazari: I expect rates to creep up. But having said that, banks make money either way and there may be some short-term impact but even in rising or declining interest rate scenario, banks will make money if they are able to maintain their margins.
The only problem is the bond portfolio. Although a lot of problems have been addressed there, but if the 10-year bond yield increases to over 8.1%, then the banks will have to do additional provisioning. But for the short-term, for the next 3 months, I am not concerned about these things.
The immediate trigger for the market slide yesterday supposedly was the RBI raising the Cash Reserve Ratio of banks by 0.5%. CNBC-TV18 reports on how the hike might affect banks' bottomlines.
The Reserve Bank' raising the Cash Reserve Ratio by 0.5% means that banks will have to lock up Rs 13,500 crores of their cash with the Central Bank and get no interest on it. But will this hurt bank profits so much as to warrant a 6.5% fall in the Bankex? Most bankers think not. The news isn't postive they admit, but it will hurt profits very marginally, if at all they say.
"We have in our calculation that the impact on our bank will be Rs 10 crore," said Anil Khandelwal, CMD, Bank Of Baroda.
Besides having to place more cash with the RBI, banks could also make treasury losses as bond prices fall. But experts say, as of now, there isn't too much of a down side on that from either.
"This is going to have only a second decimal impact on bank earnings because they are running on strong credit margins right now and credit growth is good and the hit they used to take on the investment cycle is out of the way," said Investment Advisor, PN Vijay.
What's worrying the market is whether the RBI Governor Y V Reddy will come in with more tightening steps. The Finance Minister's statement that more steps will be taken if necessary to curb inflation, smacks of another rate hike. This would mean more treasury losses.
Also, banks will be forced to raise deposits at higher and higher rates. With the Finance Minister and RBI specifically stating that loan growth needs to cool down, bankers may face a hit on margins and volumes, however, forex flows can change this picture. If FII and FDI flows continue, and if the government spending rises, as it might in the last quarter of the year, bond prices may be stable and banks may see less pressure
RBI lowers the boom
MUMBAI: Will the Reserve Bank of India’s decision to hike the cash reserve ratio (CRR) of banks to 5.5% tip the markets towards a correction?
Since banks have been at the forefront of the most recent rally, the answer should be a clear yes. But analysts say that the correction may not be too deep. “The decision to hike CRR could be one of the factors leading to a correction in the markets. But I do not think it would have much of an impact. The markets would rather look out for global cues. Banks will have to set some cash aside, but I do not think even they will be affected much by this,” says Andrew Holland, head of the strategic risk group at DSP Merrill Lynch.
Rajesh Jain, managing director of Pranav Securities, is bracing for a small impact. “It will create a bit of negative sentiment and push the correction a little farther down. Shares of all companies will be hit, including those in the housing, banking and retail sectors. But shares of companies that have capital-intensive businesses may be relatively less-affected,” says Jain.
Nobody expects the CRR hike to have long-term impact, though. “Since the CRR move comes in two stages, it will slowly cool down the overheated capital expenditure (capex) cycle of Indian companies.
CRR hike lowers the boom
It may not have a big impact on the market. If needed, big companies have the option of raising foreign money. But the smaller players do not have many options. Coming to banks, a rough assumption says that their net interest margins could dip by 10 basis points,” says Sandeep Shenoy, strategist at Pioneer Intermediaries.
After sweeping up gains for six weeks in a row, the Bombay Stock Exchange Sensex, at 13,799.49 points on Friday, stood 0.33% lower to its previous week’s closing. The Nifty had also shown a change in trend on Friday, closing lower on a weekly basis after scorching an eight-week-long winning streak. Following this, technical analysts had concluded that the Sensex would correct till 13,200 points, and the Nifty would hit a bottom at 3,850 points.
On the plus side, though, there’s enough corporate action set to happen in banks. ICICI Bank, for example, has announced a 925:100 share swap ratio for the takeover of Sangli Bank - largely to grab its 194 branches. If this move finds favour with the central bank, the shares of all private sector banks could rebound in anticipation of M&A activity.
Monday is the day to watch. “I do not think the CRR hike will affect the markets much. There is ample liquidity in the system. But we can take a better call on the market movement only on Monday,” said the head of a foreign fund house who declined to be named.
Bonds rally is set to abort
Arjun Parthasarathy
MUMBAI: The Reserve Bank of India (RBI) has played spoilsport to a bond rally which saw yields drop by 80-120 basis points (100 basis points = 1%) across the curve over the period from August to December, 2006. The RBI has, against all expectations, raised the cash reserve ratio of banks from 5% to 5.5%, which will suck out systemic liquidity by Rs 13,500 crore. The reason for the CRR hike given by the RBI was that it was intended to contain inflationary expectations. The RBI’s fiscal year-end target for inflation (as measured by the wholesale prices index, or WPI) is between 5 to 5.5% while current inflationary trends indicate that inflation will test the 6% levels in the coming weeks.
The unspoken reason for the CRR hike is the large US dollar flows into the country through portfolio and external commercial borrowings (ECBs).
There are expectations of inflows of more than US$ 3 billion in the coming months through corporate borrowings, American depository share receipts and equity purchases in the primary and secondary markets by foreign institutional investors (FIIs). The RBI is already sterilising a part of the flows through market stabilisation scheme auctions.
However, since the flows are large and bunched up in the next couple of months, the RBI must have felt that a CRR hike is the best form of sterilization to prevent the excess liquidity from going into speculative assets (equity and property).
The timing of the CRR hike, in between two policy reviews (October and January), suggests that the RBI is worried about inflation, credit growth and liquidity. The bond markets, by rallying sharply over the last four months, had become complacent on inflationary expectations and this CRR hike is a wake-up call. The markets will be right in presuming a tight monetary policy stance in the January review of the policy. A rate hike is fairly certain, but what more can one expect?
DOUBT
Monday will see the markets opening with a gap downwards. The overnight rise in US 10-year treasury yields by seven basis points (week on week rise of 15 bps) will also prey on the market’s mind. The market is heavy after a Rs 9,000 crore auction and traders will look to offload. The correction at the short end will be the sharpest, given that liquidity and short-end yields are the worst hit on a CRR hike.
Yields at the short end may move up by as much as 50 basis points as there will be no buyers for short papers. The longs may see buying on falls by traders and nationalised banks who took profits too early in the rally, but over a longer period yields will trend up. Long ends may correct by 10 bps initially but the correction will be sharper down the line.
CRR hike not to affect banks' profits: FinMin
New Delhi, Dec 13: Reserve Bank's decision to hike the percentage of deposits all banks must park with it will not affect their profitability, a senior Finance Ministry official said today.
"No impact on profitability of banks," Vinod Rai, Special Secretary (Financial Sector Services), said when asked if the CRR increase would affect the profitability of banks.
RBI had last week announced a 0.5 per cent increase in Cash Reserve Ratio to 5.5 per cent in two phases to absorb excess liquidity from the economy and check rising prices.
However, Andhra Bank Chairman K Ramakrishanan said the bank's profitability was likely to take a marginal hit due to the CRR hike.
"The rise in CRR will have a marginal impact of Rs 2.8 crore on profitablity," Ramakrishanan told reporters on the sidelines of signing of a Memorandum of Understanding with India Infrastructure Finance Company Ltd.
To maintain CRR at 5.5 per cent, the outgo from Andhra Bank may be an additional Rs 300 crore, Ramakrishanan said.
On raising resources he said, the bank had headroom to raise Rs 1,400-1,500 crore through Tier II capital.
However, it would not raise runds this fiscal through Tier I or Tier II capital, he added.
On interest rates scenario, he said: "Interest rates are stable and there would be no hardening, at least till end of this financial year."
--- PTI
CRR hike could lead to selling in bank stocks
NISHANTH VASUDEVAN
TIMES NEWS NETWORK [ MONDAY, DECEMBER 11, 2006 03:08:56 AM]
MUMBAI: Bank shares could attract selling following the Reserve Bank of India’s surprise move on Friday to increase cash reserve ratio (CRR) by 50 basis points (0.5%) to 5.5%. The rate hike, which will be effected in two phases — 25 basis points each on December 23 and January 6 — is aimed at controlling inflationary expectations and is likely to push up interest rates.
Analysts feel the impact of the rate hike might not be restricted to bank shares, but could affect the overall sentiment of the broader market, especially when there are concerns over steep valuations and lack of breadth.
On Friday, share indices fell over 1% after closing at record level in the previous five sessions. As CRR deposits with the central bank do not fetch any income, banks will be forced to hike deposit and lending rates to protect their margins, analysts said. This rate hike — the first after September 2004 — comes at a time when credit is growing at 30%, compared with a deposit growth rate of just 20-22%.
Banking sector has outperformed other sectors over the last one month. The benchmark Bankex has risen over 9%, beating other sectoral indices by a wide margin. Dealers said huge positions have been built up mostly in state-owned banks, and these stocks attract more selling pressure if sentiment for the sector as a whole weakens.
The CRR hike seems to have taken the market by surprise, with analysts still unsure about the exact reason behind it.
“This was totally unexpected and has caught the market off-guard. The central bank is clearly trying to impact the long-term liquidity. It shows that RBI is more concerned about inflation in the longer run,”
said Kashyap Jhaveri, banking analyst, Emkay Shares & Stockbrokers. Inflation rate as on November 25, based on the wholesale prices index (WPI), stood at 5.3%, down from 5.45% in the previous week, while the economy grew 8.9% and 9.2% in the first two quarters of the year. On charts, analysts said the bias is negative, as the market on Friday closed below key supports.
“The bias is down as long as the Nifty continues to close below 4000. The market is evenly poised for Monday and select heavyweights in the banking and auto sectors are at their key support levels,” said a technical analyst at brokerage Sharekhan, while not ruling out a fall to 3930 in intra-day trades on Monday.
CRR hike to hit bank profitability'
Sunday, 10 December , 2006, 08:33
Mumbai/Chennai: The 50 basis point hike in cash reserve ratio (CRR) to 5.50 per cent by the RBI will impact banks' profitability, say bankers. CRR refers to the RBI holding back a percentage of bank deposits in cash for free to control liquidity in the system. The central bank's surprise move may put pressure on lending rates even as bankers are assessing the impact.
Right move
Given a choice between hiking the reverse-repo (banks parking free funds with the RBI) rate and the CRR, bankers agree the RBI has made the right move by marking up CRR. "The central bank has chosen the better option and it is now left to us to decide on an interest rate hike," said V. Sridar, Chairman and Managing Director, UCO Bank.
The increase in CRR will, however, make a dent in profits, as banks do not earn interest on cash parked with the RBI. "UCO Bank will have to park an additional Rs 270 crore with the RBI and that could cut profit by Rs 15 crore," said Sridar.
The Chairman of another public sector bank said the CRR hike would mean parting with another Rs 280 crore and drain Rs 3 crore of profit.
"The hike comes at a time when mobilisation of resources is getting difficult. But the impact on interest rates is yet to be ascertained," said the Chairman of a large public sector bank. Bankers acknowledge the strain on interest rates.
"We will probably raise our deposit and lending rates," said Bhaskar Ghose, Managing Director and CEO, IndusInd Bank.
"There will be a slowdown in credit growth, which is currently growing at 31 per cent, year-on-year. Lending rates will go up and consumer loans are likely to take a hit," he added. Ghose said deposit rates could rise by about 75-100 basis points and banks would have to look at new ways of garnering deposits. "We are comfortable with our lending rates and have no immediate plans to hike them. This year has already seen a 100 basis point (one percentage point) rise in lending rates," said K. Ramakrishnan, Chairman and Managing Director, Andhra Bank.
"Our bank will have to commit about Rs 300 crore extra on account of this requirement. That will impact our profits by about Rs 2.5 crore this year."
According to T.S. Narayanasami, Chairman and Managing Director, Indian Overseas Bank, "Our bank will have to maintain another Rs 350 crore without interest. That would cost us something in the region of about Rs 1.25 crore a month." He termed the CRR hike as an inevitable corrective measure in the light of inflationary pressures.
He expressed concern about the impact on the debt market. "If the inflow of funds dries up, yields may move up and that will affect our treasury portfolio," he said.
Dr K.C. Chakrabarti, CMD, Indian Bank, said that his bank would have to maintain about Rs 200 crore of extra CRR based on the new requirement.
In pix: Newsmakers of the week
He said, "The RBI is signalling all players should behave responsibly. All of us have to re-examine our lending habits." M.B.N. Rao, CMD, Canara Bank, said, "Given that money supply has been growing at over 19 per cent and inflation also higher than earlier, and credit growth continuing at 30 per cent plus for nearly three years now, they had to take this step. Some of the surplus liquidity will now be sucked out. The RBI wants us to direct lending towards more productive sectors of the economy."
Treasury officials fear a sharp rise in yields when it opens on Monday.
"The bond market is likely to react adversely. Bond prices may fall and the 10 year yield could harden by as much as 20-25 basis points," said P. Mukherjee, senior Vice-President, Treasury, UTI Bank
DOUBT
Liquidity
Rs 30000 cr tax outflows
Liquidity is likely to remain tight in the short term, definitely this week. The collection towards customs, excise and service taxes has been to the tune of Rs 18,000 crore.
Advance collections towards direct taxes are expected to mop up around Rs 20,000-30,000 crore. The auction outflows will be at Rs 9,000 crore. Over and above these, the system will start preparing itself for maintaining liquidity to meet reserve requirements for the coming fortnight.
These were the scheduled outflows that will now be complemented by the 50 basis points hike in cash reserve ratio (CRR) announced on Friday by the Reserve Bank of India (RBI).
The hike will be effective in two tranches of 25 basis points each on December 23 and January 6, absorbing around Rs 13,500 crore from the market. Even if the CRR effect will actually happen a week later, the banks will be wary of spending.
The impact of the hike on liquidity could be gauged from the fact that even before the announcement was made, banks were seen taking steps to set aside funds to meet the liquidity requirements.
Banks across the board have excessively borrowed one month term money through interbank. They have even bought treasury bills and government securities so as to stock themselves with papers for repoing with the RBI.
There will be an inflow of around Rs 1,423 crore as against an outflow of around Rs 5,463 crore, including the treasury bill auctions and sale of state development loans.
Call rates
May rule high
The interbank call rates are expected to rule higher since the market is expecting the liquidity situation to be tight. While outflows towards the auction and advance tax materially impact the liquidity, the sentiment will get bearish following the CRR hike by the RBI.
Bankers are of the view that unlike the last quarter when call rates surged following the advance tax payments, they may not inch up so high this time.
This is because, liquidity is evenly distributed among market players and not concentrated in the pockets of public sector banks.
This was the reason why the call rates last quarter zoomed to 8-9 per cent despite reverse repo bids remaining high. Reverse repo is the liquidity adjustment facility (LAF) of the RBI through which it absorbs the excess liquidity from the market.
The even distribution of liquidity with the banks has been a result of the steps taken by all banks to set aside funds beforehand to tackle the tightness apprehended in the months to come.
Treasury bills
Cut-off yields to rise
The government will auction 91-day and 182-day t-bills to raise Rs 3,500 crore. The cut-off yields may inch up following concern on liquidity. They are also likely to get affected by the CRR hike which, in turn, will dent liquidity and in the process get factored in pushing up the short-term interest rates.
The t-bills secondary market trading is also likely to be thin since banks will be cautious of investing and would rather be earmarking funds to tackle liquidity tightness.
However, if liquidity becomes too vulnerable, then banks might buy t-bills for reserve requirements and also for repo with the RBI to borrow short-term funds.
Recap: The inflation rate dropped marginally to 5.30 per cent for the week ended November 25 due to a fall in food prices.
Year-on-year inflation based on the consumer price index for industrial workers, urban non-manual employees, agricultural labourers and rural labourers worked out to 7.3 per cent, 7.2 per cent, 8.4 per cent and 8.1 per cent in October 2006 as against 4.2 per cent, 4.6 per cent, 3.2 per cent and 3.2 per cent, respectively, a year ago.
Corporate bonds
Wait and watch approach likely
The corporate sector may like to take sometime before they decide on raising funds through bonds. This is because the market is likely to witness the liquidity squeeze following outflows towards auction and advance taxes.
Moreover, the tightness in liquidity may further aggravate with the CRR hike.
These events may have an indirect impact on the interest rate which is poised to go up. Therefore the companies may like to wait till the interest rates stabilize before they decide to raise money from the domestic bond market.
However, banks will continue with their fund raising programme, both for their interbank regulatory requirements and finance the credit opportunities. The funds will be dearer since most of the banks will be vying for the same pie.
The secondary market demand for corporate bonds is also likely to remain lacklustre. This is because most of the banks running short of funds and first preference for investments will be government securities. Foreign banks, which have been stocking up corporate bonds especially perpetual bonds floated by banks, are away from the market due to the calendar year end.
Recap: The spread between the triple-A corporate paper and government security of similar maturity narrowed down to 100-120 basis points as against 125-130 basis points earlier. The banking sector raised around Rs 1,282 crore through certificate of deposits for the fortnight ended October 27 while corporates mobilised only Rs 239 crore through commercial papers for the fortnight ended November 15.
Government Securities
To remain bearish
The government securities market is expected to remain thin, accompanied by a sentiment bearish. Banks will be rather busy securing liquidity, and the recent hike in cash reserve ratio (CRR) by the RBI is likely to add to the panic.
This week will witness outflows towards auction of government securities held last week and advance taxes.
While Rs 18,000 crore has already been collected as advance taxes for excise, customs and services taxes, another Rs 18,000-30,000 crore will go towards advance payment of direct taxes. Over and above, banks will have to secure funds for credit since the lendable resources have been squeezed through the CRR hike.
While it is meant to curtail the excessive liquidity in the system as evident from currency in circulation and money supply, it may impact the flow of bank funds into credit. Therefore, banks will have to set aside funds towards committed loans.
In this scenario, trading in government securities is likely to remain restricted and need-based. Foreign banks, which are there in the g-sec market mostly as traders, are staying away from the market with the year draws to a close, as most of them finalise their books for calendar year closing of the parent overseas.
Even as they are largely surplus with funds, each of public sector banks has a regulatory limit as well as counterparty limit for lending to another bank.
Market players expect to see buying interest from banks, provident funds, mutual funds etc after gilt prices fall considerably.
At the global level, as the dollar is expected to depreciate against major currencies following the weak non-farm payroll data, this could push down prices of US treasury bonds.
However, a section of the market feels that US treasury bonds may see a rally since most fund managers will be parking money in fixed-income instruments such as US bonds by exiting riskier assets. Moreover, the impact of the Federal open market committee meeting will be crucial for US bonds’ yields, which will be closely monitored by the domestic gilt market players.
In this backdrop, the yield on the ten-year benchmark paper is likely to rule in the range of 7.37-7.45 per cent.
Recap: The market remained rangebound amidst lacklustre trading. There was apprehension of receding liquidity and auction. Even as both the government papers were subscribed well by the market at expected cut-off yields, banks and traders were busy preparing for liquidity rather than trading in gilts.
The trading of gilts was mostly for stocking up the papers to be exchanged with the banking regulator under the repo mechanism to borrow liquidity for the next week.
Rupee
On a seesaw
The spot rupee is likely to be on a seesaw. On one hand, the market is expecting moderate inflows – mostly in the form of portfolio investments from institutional investors.
These funds will make way into the domestic equity market, which is getting ready for big-ticket IPOs. Otherwise, no major foreign inflows are expected this week as the western world is gearing up to enjoy Christmas holidays.
On the other hand, there is not much demand for dollars from the corporate. However, if oil prices remain volatile or continue rising, the demand may go up. If the dollar-rupee levels change either owing to cross-currency impact or RBI intervention to infuse rupee liquidity, interbank may panic and cut its positions.
The dollar, globally, is expected to remain bearish against major currencies. This is because, even if the non-farm payroll data released in the US had been better than the market expectations, the manufacturing payroll data for the last month have been revised downward from -39,000 to -44,000.
This has already initiated a bout of rally in all major cross-currencies against the dollar. The week will see many a trigger. The US will release data on trade balance and the Federal Reserve will hold the open market committee meeting to spell out its stance on interest rates.
As the RBI has raised cash reserve ratio and the market is expecting a tightness in liquidity, particularly after the advance tax outflows, the rupee premia to be paid for booking forward dollars are likely to move up.
Even as the market will be thinly traded as regards to demand and supply, interbank players may stock up dollars for the future by booking them at a forward date.
Just as lendable resources have come down with a hike in CRR, the rupee interest rate may go up as banks will be reluctant to lend. Therefore, cost of booking rupees for paying dollars is also likely to rule higher.
In this backdrop, the spot rupee is expected to rule in the range of 44.50-44.80 to a dollar.
Recap: The spot rupee remained rangebound during the week, finding it difficult to break the upside limit of 44.60 to a dollar. While foreign exchange inflows were abundant in the market, the RBI was quite active in buying dollars and infusing the rupee liquidity in the market. During the beginning of the week, the rupee fell owing to tracking a strong dollar. This is because with the year coming to an end, most global fund houses are withdrawing from riskier assets and are shifting to fixed-income assets, primarily US treasury bonds.
Because of the inflows into the dollar, it appreciated against other currencies. Towards the end of the week, cross-currencies rallied against the dollar, and this also brought about a round of appreciation for the rupee against the dollar.
The premia for forward dollars remained higher owing to apprehension on the liquidity front. And since liquidity is expected to be tight owing to advance tax and auction outflows, it was factored into the rupee premia paid for booking forward dollars.
Liquidity Pressure to ease
The pressure on liquidity is likely to ease this week. Even as the outflow towards advance taxes will take time to come back to the system, the market is expecting the government to start spending.
Moreover, healthy foreign exchange inflows are likely to make way into domestic equity markets. The market is also expecting inflows as part of corporate proceeds of external commercial borrowings and depository receipts. However, this may not happen this week.
Even then the pressure will ease as there are no major outflows slated this week. Liquidity is expected to improve further beginning January, when the government is likely to pay the interest on SDS (special deposit schemes) to the tune of around Rs 10,000 crore.
The intervention exercise of the RBI in buying dollars and infuse rupee liquidity may continue for some time. However, if the crude prices inch up, it may fuel up oil companies’ requirement to buy dollars. This could put additional pressure on the rupee.
Call rates To rule firm, may ease later
The interbank call rate is expected to rule firm in the beginning of the week but may ease towards the end. This is because banks are not facing a serious pressure on liquidity this week.
As regards to the sources of funds, foreign exchange inflows into the equity market will help in providing the necessary liquidity. If the forex funds take a backseat, intervention by the RBI is expected to help.
Banks have already stocked up government securities to enter into the repo arrangement with the RBI whereby they borrow liquidity in lieu of the papers. This window has served the market well last week as well.
Treasury bills Cut-off yield may harden
There are two treasury bills to be auctioned this week – 91-day and 364-day – for Rs 2,000 crore each. The tightness in liquidity is getting reflected in the short-term interest rate, which in turn may show up in the cut-off yield in treasury bills as well.
However, the cut-off yield may not move up very high, if the strain on liquidity eases compared to last week. The secondary market may continue to witness foreign banks’ demand for t-bills but not with the same fervour as seen in the weeks before.
According to market dealers, banks are piling t-bills for their custodian clients, who have been allocated higher limits for their debt market investments. Some of these banks also buy t-bills, as they can maintain a portfolio for entering into the repo arrangement with the RBI for accessing liquidity and maintaining SLR requirement, both at the same time .
Recap: The inflation rate for the week ended December 2 was 5.16 per cent. However, tightness in liquidity led to hardening of the cut-off yield of the 91-day t-bills, which moved up to 7.10 per cent last week from 6.64 per cent in the earlier week.
Corporate bonds To adopt wait and watch policy
Corporate houses may like to take sometime before they decide on raising funds through bonds. This is because the market is expected to witness tight liquidity conditions. These events may have an indirect impact on the interest rate, which is poised to go up.
Therefore, corporates may like to wait till the interest rates stabilise before they decide to raise money from the domestic bond market. However, banks will continue with their fund-raising programmes – both for interbank regulatory requirements and for financing the credit opportunities. The funds will be dearer as most banks will be vying for the same pie.
The secondary market demand for corporate bonds is also expected to remain lacklustre, as most of the banks are short in funds and the first preference for investments will be government securities. Foreign banks, which have been stocking up corporate bonds – particularly perpetual bonds floated by the banks, are staying away from the market as the calendar year is drawing to a close.
Recap: The spread between the triple-A corporate paper and government security of corresponding maturity narrowed down to 100-120 basis points (bps) against 125-130 bps earlier.
The banking sector raised around Rs 2,556 crore through certificate of deposits for the fortnight ended November 10, while the corporate sector mobilised only Rs 1,670 crore through commercial papers for the fortnight ended November 30.
Government securities To see thin trade
The g-sec market is expected to remain thin, while the sentiment will be bearish. Banks will be rather busy securing liquidity and the recent hike in cash reserve ratio (CRR) by the RBI is likely to add to the panic. The week ahead will witness outflows towards sale of state development loans to the tune of Rs 1,700 crore. While Rs 18,000 crore has already been collected as advance taxes for excise, customs and services taxes, another Rs 18,000-30,000 crore will go towards advance payment of direct taxes.
Over and above, banks will have to secure funds for credit since the amount of lendable resources has been squeezed through the CRR hike. While it is meant to curtail excessive liquidity in the system as evident from currency in circulation and money supply, it may impact the flow of bank funds into credit. Banks, therefore, will have to set aside funds towards committed loans.
In this scenario, trading in g-sec is likely to remain restricted and need-based. Foreign banks, which are mostly traders in the market, are staying away from the market as the year is drawing to an end. This is because most of them finalise their books for calendar year closing of the parent overseas.
Even as the public sector banks are mostly surplus with funds, each one has a regulatory limit as well as counterparty limit for lending to another bank.
Market players expect that after the prices of government securities fall considerably, banks, provident funds, mutual funds etc may show more buying interest.
In this backdrop, the yield on the ten-year benchmark paper is likely to rule in the range of 7.65-7.80 per cent.
Recap: The market remained rangebound amid lacklustre trading. There was apprehension on account of receding liquidity and auction. The market was more active in managing short-term liquidity. The trading of gilts was mostly for stocking up the papers to be exchanged with the RBI under the repo mechanism to borrow liquidity for next week.
Rupee Poised in a balance
The spot rupee is expected to remain poised in a balance. On one hand, the market is expecting good inflows mostly in the form of portfolio investments from institutional investors. These funds will make way into the Indian equity market.
According to market analysts, major dollar inflows are waiting in the pipeline as part of the corporate proceeds from external commercial borrowings and depository receipts.
Globally, the consumer price and trade balance data released last week were bearish on the dollar. The market has also discounted a bearish tone for the housing and CPI data to be released this week. Therefore, the dollar is likely to have an depreciation bias. Since crosses are going to move up against the dollar, the rupee is also likely to gain few notches.
On the other hand, there is not much demand for dollars from the corporate. However, if oil prices remain volatile and continue rising, demand may go up. If the dollar-rupee levels change either owing to cross-currency impact or the RBI intervention to infuse rupee liquidity, then interbank players may panic and cut their positions.
With the CRR hike, the market is expecting tightness in liquidity. Especially after the advance tax outflows, the rupee premiums to be paid for booking forward dollars are likely to move up. Even as the market will be thinly traded as regards to demand and supply, interbank players may stock up dollars for future by booking them at a forward date.
Just as lendable resources have come down with the CRR hike, rupee interest rate may go up as banks will be reluctant to lend. Therefore, cost of booking rupees for paying dollars is also likely to rule higher.
In this backdrop, the spot rupee is expected to rule in the range of 44.35-44.60 to a dollar.
Recap: The spot rupee remained rangebound during the week. Foreign exchange inflows in the beginning of the week were not much forthcoming since there was a wide-scale correction seen in the equity market. The dollar gained against major cross-currencies as part of global correction.
This is because with the end of the year, most global fund houses are withdrawing from the riskier assets and shifting into fixed income assets, primarily US treasury bonds. Owing to the inflows into the dollar, it appreciated against other currencies. Towards the end of the week, cross-currencies rallied against the dollar and this also brought about a round of appreciation of the rupee to the dollar.
The premiums for forward dollars remained higher owing to apprehension on the state of liquidity. The sharpest hike was witnessed in the near term of one-month tenure.
CRR hike has squeezed SBI's profit margin: Agarwal
Mumbai, Dec 19: The State Bank of India (SBI) today said its profit margins were under pressure due to Reserve Bank of India's (RBI) decision to raise the cash reserve ratio (CRR) by 0.5 per cent earlier this month.
"The CRR hike by RBI has put pressure on our profit margins. Our net interest margin has been affected by about 0.3 per cent," SBI Managing Director Yogesh Agarwal said here.
Agarwal told reporters that the bank would take a call on interest rates if RBI decides not to offer interest on CRR parked with it.
"The finance minister has assured all banks that he would take up the issue with the RBI to offer some interest on CRR of banks. The matter is under consideration with RBI," he said.
He said there was no slowdown on credit growth of SBI.
Denying signs of over-heating in the economy Agarwal said, some sectors were growing more actively than others.
Answering queries regarding SBI's plans to raise capital from the market he said it would take about two to three months after the SBI Act Amendment is passed in the Parliament.
The bill for SBI ACT Amendement was introduced during the ongoing session of the Parliment and was awaiting passage.
Tuesday, 12 December , 2006, 08:54
Mumbai: The BSE Bankex dipped 463.96 points or 6.43 per cent to close at 6,749.78 on the RBI decision to raise the Cash Reserve Ratio to 5.50 per cent.
Heavyweights of the index, State Bank of India (down Rs 110.75 or 8.18 per cent to close at Rs 1242.75) and ICICI Bank (down Rs 57.30 or 6.54 per cent to end at Rs 819.40), led the market fall.
"A rise in CRR was not expected at this time. The move reflects the concern of the RBI over increasing dollar inflows and inflation. Post-hike in CRR, bank profits could be impacted. The net interest margins of banks should be under pressure,'' said Rakesh Kumar, banking analyst, Karvy Stock Brokers.
In pix: Global hoteliers check in!
Shares of HDFC shed Rs 51.05 to close at Rs 1034. Bank of Baroda (down 8.49 per cent at Rs 239.15), Bank of India (down 10.06 per cent at Rs 184.15) and Punjab National Bank (down 8.13 per cent at Rs 508.65) dropped on the bourses. As CRR deposits do not fetch any income, banks will be forced to hike deposit and lending rates to protect margins, analysts said.
"The hike in CRR will have an impact on long-term liquidity due to credit multiplier effect. This will increase the cost of funding for the banks thereby increasing interest rates on loans,'' Kashyap Jhaveri, banking analyst, Emkay Shares and Stocks.
Market watchers, however, feel the slump will help banking stocks to regain their fair value. Most analysts felt the stocks were a bit overpriced over the past few trading sessions.
IMPORTANT
The CRR would be raised in two tranches and would lead to Rs13,500 crore being sucked out of the banking system.
Banks henceforth would need to set aside Rs 30.5 out of every Rs 100 collected as deposits; Rs 25 towards SLR being invested in to government bonds and Rs 5.50 towards CRR.
Moreover, banks provide further capital to guard against loans turning bad and investments incurring losses. Thus the amount of loanable funds would decrease leading to a slowdown in credit off take.
Banks, after meeting its reserve requirements (SLR and CRR) and provisions, would need to price its loans steeper to maintain its margins. Banks do not earn any interest on the balance held with the RBI as CRR.
And investments into government bonds are lower yielding than commercial and consumer lending. So either the banks would need to re-price its loans higher or sacrifice its profits by working on
Threats that rising rates pose
A report by Citigroup released in June revealed something startling. It said that over the past few weeks 19 central banks, accounting for over four-fifths of global GDP, had tightened monetary policy.
That is unprecedented. Strong growth, resulting from an easy to accommodating money policy for the past two years and rising inflationary threat, is forcing central banks around the world to follow a tight money policy.
The recent changes in asset prices and the broad and more or less simultaneous reaction of monetary policy around the world, the Citi report said, raised basic questions on whether the global economy is facing an emerging inflation threat that will require a sustained tightening of monetary policy around the world and a period of sub-par global growth.
If that were indeed the case, it would be depressing for markets around the globe. Fearing sustained rise in rates, global asset market have been nervous since mid-May.
Last Thursday, however, as the Fed announced its 17th consecutive 25 basis point hike in Fed Funds rates taking it to 5.25 per cent, global markets breathed a sigh of relief.
On Friday, all prominent emerging markets gained - Hang Seng (2.54 per cent), Jakarta Composite (2.79 per cent), Seoul Composite (2.54 per cent), Nikkei (2.54 per cent and Philippines Composite (4.52 per cent). India's Sensex gained 447 points.
Markets are probably saying, as the Citi report earlier said, that the Federal Reserve is near the end of a long period of monetary tightening and will raise rates probably only once more before pausing after the August meeting.
But, opinion remains divided. "The only uncertainty appears to be on how far the Fed will take its benchmark rates before it calls a halt to its tightening policy. (On balance of factors), it does appear that a tighter monetary regime is here to stay and this will likely prompt a re-adjustment of portfolio flows in the short-to-medium term," says K N Sivasubramanian, senior portfolio manager, Franklin Templeton.
Back home, marketmen are expecting a hike in the reverse repo rate - the equivalent of Fed rate -currently hovering at 5.75 per cent, in the near term. The threat of rising interest rates in the domestic economy seems larger than in the past two years with the narrowing interest rate differential between the US and India.
Besides, while inflationary concerns persist, the domestic economy is bubbling and a big chunk of the capital expenditure planned by corporates is expected to happen over the next couple of years.
"Real demand for money is yet to pick up with corporate expansion plans yet to move into a higher gear," says Prashant Jain, chief investment officer, HDFC Mutual Fund.
On the supply side, banks are running out of capital to lend and deposits are not growing at a brisk rate either. And if equity markets do not look up, plans to raise capital may go awry making money even more scarce. More demand for money, and short supply would only mean the price of money or interest rates must go up further.
But by how much? And how would this affect growth, corporate profits and stock prices?
Where are rates headed?
The compulsions for RBI to raise interest rates are more even though the differential between the US Fed and reverse repo rates here has narrowed to 50 basis points.
Two years back when the US Fed began raising rates, the differential was as high as 350 basis points. From 1 per cent in May 2004, Fed has hiked its rate 17 times, 25 basis points each. During the same time span, the Reserve Bank of India's reverse repo rate has been hiked from 4.5 per cent to 5.75 per cent - by 125 basis points.
Till November 2005, every percentage point hike in the US Fed rate was followed by a 25 basis points hike in the reverse repo rate but since then every 50 basis points hike in Fed rate is followed up with a 25 basis points hike in the reverse repo rate. "RBI will have to act faster to global changes in rates," says Sachidanand Shukla, economist at domestic broking firm Enam Securities.
Domestic compulsions seem to be weighting heavily too. Though prices aren't spiraling alarmingly, they are still rising steadily. In the 12 months through June 10, the Wholesale Price Index rose at a faster-than-expected rate of 5.24 per cent, due to an increase in the cost of fuel, food and manufactured products.
And the credit demand has been really strong while deposits growth isn't quite keeping pace. This fiscal, so far, bank deposits have shown poor growth at 1.7 per cent compared to 4.9 per cent in the same period last year.
But during the same period, non-food credit has grown at 33 per cent from Rs 11.01 lakh crore to 14.70 lakh crore. Reflecting the increased off-take, credit-deposit ratio has jumped from 55 per cent two years ago to over 70 per cent currently.
Thus banks have been raising lending rates. Prime lending rates, which were at end-March mean level of 10.75 per cent are rising. Currently, the largest bank State Bank of India has a PLR of 11.25 per cent. Another 100 basis point hike in PLR is a foregone conclusion but there could be more depending on demand and RBI stance.
Marketmen believe that the central bank could use the cash reserve ratio as a weapon to release some money into cash strapped banks. It's worth recalling that RBI had cut CRR by 150 basis points in fiscal 2000 after foreign institutional inflows had turned negative in fiscal '99.
According to a report by Kotak Securities, a 50 basis points rate cut in CRR would release Rs 12,500 crore (Rs 125 billion) in the first round and Rs 60,000 crore (Rs 600 billion) in all given a money multiplier of five.
Credit off-take in fiscal 2006 was Rs 3,400 billion (Rs 3,40,000 crore) but resources available for interest rate neutral credit off-take is Rs 3,340 billion (Rs 3,34,000 crore). Kotak estimates that in the worst case, the credit off-take requirement could exceed resources by some Rs 8,000 crore (Rs 80 billion).
Impact on corporate profits
Rising rates would eat into corporate bottomline but that may not be a big concern as long as rates do not go up more than say, two per cent from current levels.
Moreover, even after the recent increases in interest rates, lending rates are still far below the levels in the early nineties and are unlikely to climb back to those levels over the medium-term.
Interest rates are currently at the lowest ebb and some increase is only inevitable. Since fiscal 99, interest cost as a percentage of sales have gone down from 5.36 per cent to 1.75 per cent for the BS1000 companies.
But the good news is that corporate gearing is currently at a historic low falling from 1 in fiscal 99 to 0.62 currently meaning there is enough room to absorb increases in rates without too much stress on the bottomline.
Says Sivasubramanian, "Sensitivity of corporate earnings to higher interest rates has declined after the debt restructuring exercises undertaken by companies over the past few years, which has substantially reduced the leverage in balance sheets." Jain agrees pointing out that some pressure on profitability is a given.
The bigger question however is growth: whether corporates still go ahead with new capacities or will expansion plans take a backseat impacting growth rates. So far there has been no news of any deferment in corporate expansion plans due to the rise in cost of funding.
But then, it's not just cash with banks but the state of the equity market and the interest of foreign investors that will determine whether corporate plans are on track.
This time around, unlike in the early nineties, the bulk of funding has taken place through equity issues and internal accruals.
Last fiscal, corporates raised Rs 24,000 crore (Rs 240 billion) through equity and quasi-equity issuances and this year again non-bank issuances alone are estimated to raise around Rs 27,000 crore (Rs 270 billion). FIIs will play a crucial role here.
For instance, FIIs are estimated to have accounted for more than a third of recent top 25 issuances, according to Kotak Securities.
While growth rates may slow, no one is projecting sub-10 per cent growth in earnings. Analysts say that an earnings growth of around 12-15 per cent over the next couple of years is achievable.
Will liquidity be affected?
One of the fallouts of the rise in Fed rates is the re-balancing of portfolios. Due to the increasing dominance of momentum investors across the global market and various asset classes, the impact of interest rates on flows tend to be even more pronounced.
Though there are hardly any numbers to show how much of the flow into emerging markets emanated from carry trades (low cost money raised in certain developed markets deployed in high rates in assets perceived as risky), fears of a rise in Japanese rates has already led to an exodus from emerging equity market and commodity markets.
During the five weeks of global sell-off and heightened volatility ending June 21, investors have pulled about $22 billion from equity funds belonging to all regions except US which record net inflows of $4.8 billion.
But is that all or there is more to go? Changes in liquidity flows are notoriously difficult to predict and it may be a tad too early to say that the re-adjustment has played out completely.
"With the interest rate differential slimming, money will move to its original source which means an outflow from emerging markets," says Shukla.
While maintaining that rising interest rates may prompt unwinding of the carry trade positions and that there might be increased volatility due to the change in sentiment, Sivasubramanian says, "Fundamentals will prevail over the long term. And strong economies like India offering attractive growth potential will continue to bring in investments."
There is another way to look at this too. In an earlier meeting, Adrian Mowat of JP Morgan Securities demonstrated that global liquidity was being generated in emerging markets, essentially as nine prominant emerging markets, including China, Korea, Hong Kong, Philippines, Taiwan and Singapore had short term rates lower than that of the US indicating a negative interest rates differential and in several other economies like Russia, Thailand, South Africa and India differential had fallen sharply.
Mowat said that risks are falling in emerging markets even as they offered higher growth. "Structural problems were a feature of developed rather than developing economies as the emerging markets provided capital, steadier domestically driven growth, relatively inexpensive valuations and better capital management," he indicated.
What about sentiment and stock prices?
More than corporate earnings, interest rates affect stock valuations due to changes in the risk premium.
When bond yields were going at 5 per cent, the bond multiple stood at 20 and a similar multiple for stocks may have been easily justified. But with bond yields shooting up to 8 per cent, the multiple for risk free assets are down to 12 times making an equity valuation of 15 times earnings look expensive.
Says Jain, "Between corporate earnings and discounting, the bigger concern is valuations as higher interest rates make equities look less attractive than before."
The good news however is that the markets usually take time to react to such interest rates changes.
For instance, for a long time after interest rates had bottomed out, equity markets did not show a spurt in valuation. It took billions of dollars of foreign money to unlock the value in stocks thereafter.
Where to invest
The blessing in disguise is that rising borrowing costs will have an uneven impact across sectors and companies.
Says Sivasubramanian, "Certain businesses such as FMCGs are characterised by low levels of debt and significant operational cash flows and will face negligible impact from rising borrowing costs. We see the possibility of reducing the impact from higher borrowing costs on our portfolios through stock selection."
While an overall derating of equities is inevitable, if rates continue to be high, safer havens would be technology and consumer stocks which are debt-free and companies that are net cash positive.
As things stand now, experts do not expect rising borrowing costs to have an impact on consumer spending and confidence.
"Spends on staple or even durable goods may not be significantly impacted by rising rates, as income levels have expanded significantly over the past few years, with loan repayments making up a smaller proportion of the income," says Sivasubramanian.
However, he says, rising interest rates could have a material impact on big-ticket purchases such as homes given that the bulk of housing loans are disbursed on a floating rate basis.
A slowdown in housing loan disbursements cannot be ruled out if interest rates continue to trend up, accompanied by spiraling property prices. The appetite for residential housing is likely to be sustained thanks to an expanding workforce and easy access to credit.
Logic behind the CRR hike
The 50-basis-point hike in CRR by the Reserve Bank of India (RBI) after a two-year gap is not surprising given the economic conditions. With inflation edging close to the 5.5 per cent mark, money supply expanding at a higher than projected rate and certain sectors showing signs of overheating, the central bank's move appears logical. But the larger issue is whether the central bank will succeed in achieving its objective of containing inflationary pressures using this monetary tool. The hike in CRR in two phases is likely to drain about Rs 13,500 crore from the banking system. This is, however, unlikely to put pressure on overall liquidity conditions as mop-up of resources through the LAF (Liquidity Adjustment Facility) will continue. However, the measure is likely to have some impact on banks lending operations. The waiver of interest on CRR balances by the RBI in June, coupled with the recent hike in CRR to 5.5 per cent, means that banks will have to set aside a higher portion of their net demand and time liabilities without earning any return on the same. And with less funds available for lending, banks may have to re-work their lending strategies and re-align rates. This may lead banks to increase their sub-PLR lending rates or trim discounts on corporate loans.
CRR hike to hit bank profitability'
Our Bureaus
`Impact on interest rates yet to be ascertained'
What they say
The hike would mean parting with another Rs 280 crore and drain Rs 3 crore of profit.
There will be a slowdown in credit growth, which is currently growing at 31 per cent, year-on-year.
Lending rates will go up and consumer loans are likely to take a hit.
Mumbai/Chennai , Dec. 9
The 50 basis point hike in cash reserve ratio (CRR) to 5.50 per cent by the RBI will impact banks' profitability, say bankers. CRR refers to the RBI holding back a percentage of bank deposits in cash for free to control liquidity in the system. The central bank's surprise move may put pressure on lending rates even as bankers are assessing the impact.
Right move
Given a choice between hiking the reverse-repo (banks parking free funds with the RBI) rate and the CRR, bankers agree the RBI has made the right move by marking up CRR. "The central bank has chosen the better option and it is now left to us to decide on an interest rate hike," said Mr V. Sridar, Chairman and Managing Director, UCO Bank.
The increase in CRR will, however, make a dent in profits, as banks do not earn interest on cash parked with the RBI. "UCO Bank will have to park an additional Rs 270 crore with the RBI and that could cut profit by Rs 15 crore," said Mr Sridar.
The Chairman of another public sector bank said the CRR hike would mean parting with another Rs 280 crore and drain Rs 3 crore of profit.
"The hike comes at a time when mobilisation of resources is getting difficult. But the impact on interest rates is yet to be ascertained," said the Chairman of a large public sector bank. Bankers acknowledge the strain on interest rates.
"We will probably raise our deposit and lending rates," said Mr Bhaskar Ghose, Managing Director and CEO, IndusInd Bank.
"There will be a slowdown in credit growth, which is currently growing at 31 per cent, year-on-year. Lending rates will go up and consumer loans are likely to take a hit," he added. Mr Ghose said deposit rates could rise by about 75-100 basis points and banks would have to look at new ways of garnering deposits. "We are comfortable with our lending rates and have no immediate plans to hike them. This year has already seen a 100 basis point (one percentage point) rise in lending rates," said Mr K. Ramakrishnan, Chairman and Managing Director, Andhra Bank.
"Our bank will have to commit about Rs 300 crore extra on account of this requirement. That will impact our profits by about Rs 2.5 crore this year."
According to Mr T.S. Narayanasami, Chairman and Managing Director, Indian Overseas Bank, "Our bank will have to maintain another Rs 350 crore without interest. That would cost us something in the region of about Rs 1.25 crore a month." He termed the CRR hike as an inevitable corrective measure in the light of inflationary pressures.
He expressed concern about the impact on the debt market. "If the inflow of funds dries up, yields may move up and that will affect our treasury portfolio," he said.
Dr K.C. Chakrabarti, CMD, Indian Bank, said that his bank would have to maintain about Rs 200 crore of extra CRR based on the new requirement.
He said, "The RBI is signalling all players should behave responsibly. All of us have to re-examine our lending habits." Mr M.B.N. Rao, CMD, Canara Bank, said, "Given that money supply has been growing at over 19 per cent and inflation also higher than earlier, and credit growth continuing at 30 per cent plus for nearly three years now, they had to take this step. Some of the surplus liquidity will now be sucked out. The RBI wants us to direct lending towards more productive sectors of the economy."
Treasury officials fear a sharp rise in yields when it opens on Monday.
"The bond market is likely to react adversely. Bond prices may fall and the 10 year yield could harden by as much as 20-25 basis points," said Mr P. Mukherjee, senior Vice-President, Treasury, UTI Bank.
Sensex tanks 400 points due to CRR hike
Tuesday, December 12, 2006
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Mumbai: After clocking the second fastest 1,000-point rise in its history and spiking briefly past 14,000-point mark, the Bombay Stock Exchange crashed 400 points yesterday. This incidentally was its seventh-largest intra-day fall.
The Sensex closed at 13,399.43, down 2.9 per cent from the previous day. The National Stock Ex- change’s Nifty mirrored the BSE’s movement, losing or 2.84 per cent to close at 3,849.50 points. Around Rs.1.73 lakh crore of investor wealth was lost, with stocks of all leading companies trading in the negative zone.
The fall has been attributed to the fear of a growth slowdown triggered by the Reserve Bank of India’s (RBI’s) move to tighten money supply by increasing the cash reserve ratio (CRR). CRR is the money various banks have to keep with the RBI in the form of cash and deposits. The worst hit was the banking sector.
"Banking stocks reacted to the RBI's policy and the trend percolated to all the sectors," said Sandeepa Arora, Vice-President, India Infoline a CRR hike would cut the funds banks could lend, thereby potentially affecting earnings. This factor led to a tanking of the banking stocks.
Industry sources said that the other reason for the downfall of the market might have been sell-offs by foreign institutional investors (FIIs), whose moves are closely shadowed by domestic players. FIIs were reportedly net sellers of about Rs.106 crore in individual stock futures on Friday. Not a stock in the BSE Sensex gained today. SBI was the biggest loser, down 8.18 per cent at Rs 1,242.75. ICICI Bank lost 6.54 per cent at Rs.819.40.
Analysts, though, point out that Monday’s fall was a good thing. “Technically, the market was at a high valuation, and a correction was expected anytime,� opined Lalit Thakkar, director (research) Angel Broking.
