Gilts Buyback To Impact Bank Profits; Shares May Take A Hit

Mumbai, May 20: | Updated: May 21 2003, 05:30am hrs
The Centres gilts buyback scheme will result in a substantial erosion in the bottomlines of the participating public sector banks as the Centre swaps the high-coupon gilts with low-coupon ones. Bank shares, which have been witnessing a rally this season, are likely to get a big jolt, as the scheme will adversely impact banks future interest income.

The party, which saw banks reporting better results over the last two fiscals due to high treasury profits, will certainly come to a halt with the fall in interest income and amid the slowing down of the pace of softening of interest rates. Some analysts are also of the view that the rates might have bottomed out.

High-coupon bearing government securities (G-Secs) with zero risk have been a great succour to banks profitability. This has made banks hold these securities beyond their statutory liquidity requirements of 25 per cent. The lack of alternative investment avenues due to lack of credit demand has also forced the banks to park their idle funds in G-Secs.

The impact of gilts buyback will overshadow all positive triggers for the banking shares of late. Bank counters are undergoing a rally on hopes of better recovery due to the recent Securitisation Act and the decision to allow 74 per cent foreign direct investment in private sector banks as it has led to the perception that their valuations are still competitive at lower price multiple.

The weighted average coupon rate on existing high-coupon G-Secs is around 12 per cent and the fresh issue of the dated stocks will have a weighted average coupon of around six per cent.

The differential in interest income will outweigh the benefits: cash premium and utilisation of same by the banks to provide for NPAs and derive tax benefits.

The majority of the dated stocks eligible for the buyback fall in the maturity bucket between years 2006 and 2009. The auction will work on the multiple price auction on voluntary basis, which implies that the lowest bids will be assured of being accepted.

No doubt, there is a strong economic incentive for participating banks to clean up their balance sheets and reduce their NPAs, but bottomlines will be impacted, said an analyst.

Banks do have apprehensions that they would lose higher return on these illiquid securities and it could affect their future net interest income. Banks also apprehend as to what would happen to their G-Sec portfolio in the event of northward movement of interest rates, the analyst added.

Bank of Baroda (BoB), Bank of India (BoI) and Central Bank of India (CBI) are among the ones keen to sell a substantial part of their illiquid dated stocks. Weaker banks are, however, unlikely to sell their securities.

BoB has a portfolio of around Rs 1,200 crore high-coupon stocks and is likely to offload around Rs 700-800 crore, said a source. Canara Bank has a portfolio of around Rs 1,900 crore, while BoI has around Rs 800-crore kitty. CBI has a holding of around Rs 1,000 crore, with Dena Bank having around Rs 315 crore and Union Bank of India at around Rs 800 crore. We are evaluating the cost-benefit aspects of the buyback scheme and our participation would depend on that, a banker said.

Banks will bid on the discount over the market price of G-Secs and all bids below the cut-off level would be accepted and securities would be bought back. The cut-off would be set at a point where the total premium payable in cash meets the amount to be fixed by the Centre. The total premium payable is estimated around Rs 3,500-5,000 crore.