Indian banks increased their investments in securities issued by the central and state governments by over 19 percent year-on-year (YoY) in October, according to Reserve Bank of India data.
Experts said rising bond yields made such investments attractive for these investors. A higher statutory liquidity ratio (SLR) for banks, in line with rising deposits, also played a role, they said.
Investments by banks in government securities (G-Sec) and state development loans (SDLs) climbed to Rs 62.04 lakh crore on October 6 from Rs 52.45 lakh crore on October 7, 2022, according to the data.
“Deposit growth has also increased from around 9 percent in October 2022 to 13 percent in October 2023. With SLR holding around 29 percent by banks and deposit growth remaining robust, we can see banks parking incremental money in G-Sec/SDL. Also, higher yields in G-Sec/SDL have made it lucrative,” said Ajay Manglunia, managing director and head of investment group at JM Financial.
The SLR is a reserve that banks must maintain by investing in approved securities as a percentage of net demand and time liability. Banks can invest in Central government-dated securities, treasury bills, SDLs and other securities approved by the central bank.
Venkatakrishnan Srinivasan, founder of Rockfort Fincap, said following the repo rate hikes after Covid, banks invested in government securities further as the yield went up.
“With the withdrawal of Rs 2,000 banknotes, banks’ deposit growth and liquidity continued to increase. Hence, banks too continued their investment in government bonds,” he added.
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Rise in yields
Yields on government bonds have climbed higher after the RBI increased interest rates to tame inflation. The central bank increased rates by 250 basis points since May 2022. The policy repo rate now stands at 6.5 percent.
Money market dealers said that for banks, such investments became attractive because the yield on government securities was higher before the RBI paused the rate hike. The policy repo rate hasn’t changed since February.
Whenever the yield on bonds rises, prices fall in the secondary market, making investments in those securities attractive for banks because, during a reversal of rates, they can benefit from capital appreciation, experts said.
In October, the yield on government securities rose 10-15 basis points after RBI governor Shaktikanta Das said the central bank may consider open market operation (OMO) sales to manage liquidity. OMO refers to the purchase or sale of government securities in the open market by the central bank.
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Currently, the yield on the 10-year benchmark 7.18 percent 2033 bond is 7.3714 percent.
Money market experts said banks and other investors are likely to remain cautious in the coming days due to expectations of OMO sales, which are negative for bond yields, and rate cuts likely to start next year.
“Bond yields are expected to be in a broad range and the market will continue to trade with caution, which may impact banks’ additional investment in government bonds,” Srinivasan said.
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