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Banks get bond respite, but yields hit three year high

Dealers says it may rise further before settling down as the market weighs a slew of announcements for the bond market

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Government bonds rose sharply after Reserve Bank of India (RBI) announced that banks can use an additional 2% of their existing government bond portfolio held as statutory liquidity ratio (SLR) towards liquidity coverage ratio (LCR).

Anticipating a fall in the demand for bonds, the yields rose to a three-year high to close at 7.91%, a level last seen on May 15, 2015. Dealers said it may rise further before settling down as the market weighs a slew of announcements for the bond market.

Vijay Sharma, senior executive vice-president, PNB Gilts, said, "The yields have gone up after RBI announced that banks can dip up to 2% in their SLR to meet the LCR requirements. This may reduce the incremental demand for government bonds from banks, mainly private and foreign banks. Yields may inch up a bit more before stabilising."

RBI, under its regulatory guidelines, has mandated banks to invest 19.5% of their deposits and a portion of their loans into government bonds as a reserve requirement. While this remains unchanged, it has allowed 13% of the SLR to be used to compute LCR, which mean lesser demand for government bonds from foreign and private banks, which are going to keep SLR on the margin, reducing the demand for government bonds.

Ananth Narayan, professor (finance), S P Jain Institute of Management and Research (SPJIMR), and an expert on the bond and forex markets, said, "The move towards the proper valuation of the state government bonds (SDLs) an additional 2% SLR that can be reckoned for LCR are positive. The SDL move would increase the mark to market (MTM) by a significant Rs 10,000 to Rs 15,000 crore, but will be allowed to be spread over four quarters. Both the moves could increase the gloom in the market, but will go reduced the tightness witnessed in the deposit, certificate of deposit and the commercial paper and corporate bond markets."

RBI will allow banks to spread the MTM losses in view of rising yields and insufficient time for banks to build the investment fluctuation reserve (IFR), banks can spread the MTM losses for the quarter ending June 30, 2018, equally over a period of four quarters (compared to March 2018 earlier).

Ashutosh Khajuria, executive director, Federal Bank, said, "The yields will settle down after the market understands the full impact of RBI announcement. The MTM for the bond losses for the first quarter ending June 30 is also now allowed to be spread over the remaining quarters of the financial year. Revaluation of the state development bond portfolio can increase losses for certain banks."

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