Synopsis: Public sector banks are reducing their bond holdings while foreign lenders are increasing theirs, changing the trading landscape. This shift is driven by factors such as excess SLR holdings and the RBI's tightening monetary policy.
Public sector banks are decreasing their bond holdings while foreign lenders are increasing theirs, reshaping the trading landscape.
Factors such as excess SLR holdings and a tightening monetary policy have driven this change.
The market value of these investments is estimated at Rs. 22.4 lakh crore.
Public sector banks, once dominant in bond trading, are losing ground to foreign lenders as the need to attract deposits forces state-owned banks to sell off bond holdings.
In contrast, international banks are capitalizing on rising global interest in local debt.
Before the Covid-19 pandemic, state-owned banks held nearly 60% of banks' trading book portfolios, but this has now dropped to just over 40%.
Foreign banks' share, however, has risen from 19% to almost 30%, according to central bank data.
A significant portion of the trading book consists of government bonds, as Indian banks are required to buy large quantities of high-quality liquid assets like sovereign debt as a prudential measure.
"The reduction in PSU banks' share in the trading portfolio is largely due to state-owned banks decreasing their excess SLR (Statutory Liquidity Ratio) holdings amidst a significant gap between credit growth and deposit growth," said Kanika Pasricha, chief economic advisor at Union Bank of India.
"In FY24, deposit growth for PSU banks was 10.4% while credit growth was higher at 13.6%, reflecting stronger balance sheets with improved asset quality," she added.
Foreign Banks Outpace Private Banks:
Over the past year, foreign banks have also surpassed private sector banks in trade share, despite private banks having larger bond portfolios than multinational banks.
According to the Reserve Bank of India's June 2024 Financial Stability Report, public sector banks' share in total investment was 42.8% in March 2024, while foreign banks held 29.1%.
The RBI assessed the market value of these investments at Rs. 22.4 lakh crore.
In December 2019, PSU banks held 57.7% of total investments, while foreign banks held 19%.
The RBI's assessment covers banks' Available for Sale (AFS) and Held for Trading (HFT) books, which constitute their trading portfolios.
The RBI's monetary tightening cycle, which began in May 2022, also led PSU banks to reduce their trading operations amid bond yield volatility, traders noted.
Foreign Banks' Rising Share:
The increasing share of foreign banks is driven by two key factors: a growing trade in complex derivative products that overseas banks execute to meet insurance companies' demand for risk-free debt, and heightened global interest in Indian bonds following JP Morgan's inclusion of India in its Emerging Market bond index.
"Foreign banks have seen increased demand from insurance companies for forward rate agreements (FRAs), leading to more activity in underlying bonds. Additionally, foreign portfolio investor (FPI) interest has grown since September 2023, boosting activity by foreign banks," said Vikas Jain, head of India fixed-income, currency, and commodity trading at Bank of America.
Data from the Clearing Corporation of India showed that from March 15 to June 26, the total notional amount of bond FRA transactions, including buy and sell trades, was Rs. 35,065.70 crore.
In conclusion, the shift in bond holdings from public sector banks to foreign lenders is reshaping the trading landscape.
Factors such as excess SLR holdings and the RBI's monetary tightening policy have driven state-owned banks to reduce their bond portfolios, while foreign banks have capitalized on increased global interest in Indian debt.
This transition reflects a broader trend of international players gaining prominence in the Indian bond market.
Investors and market participants should stay informed of these dynamics as they impact the overall trading environment and investment strategies.
