New bank investment norms come under attack

Says Ask Raymond James in its report: "The cap of five per cent will significantly increase bank’s exposure to equity risk. According to the latest RBI figures, banks investment in equity on August 25 is at Rs 3,000 crore. Given a further Rs 3,000 crore investment in equity-linked mutual funds, the total bank exposure would be Rs 6,000 crore, which is roughly 1.3 per cent of outstanding credit. Increasing the cap to five per cent of credit such investment will shoot up to Rs 23,000 crore. Since the committee has not capped the amount of equity investment in terms of proportion of bank’s net worth, the ratio is bound to reach a high level".

The report observes that a study involving 11 relatively strong Indian banks shows investment in equity was 11.8 per cent of those banks net worth. Had banks been allowed to invest five per cent of their total credit in equities, the ratio would have shot up to an alarming 37.5 per cent. Since the sample includes the stronger and better-capitalised government banks, the ratio of equity investment to net worth could be significantly higher for the sector.

Currently, bank investments in shares are below the RBI cap. "It is difficult to understand the committee’s keenness in compelling banks to increase their exposure to the high-risk assets," the report said, adding that such a move will have long-term repercussions – earnings of banks will fall, potential equity investment losses will add to their non-performing loans and margins will be under pressure.

Brokerage houses and asset management companies are seen as gainers, not banks. The move is also seen as an attempt to revive the stock markets, ease pressure on the exchange rate by encouraging more foreign institutional investor inflows or support the government’s disinvestment programme when it finally materialise.

"A further fallout of such exposure in equity is that capital adequacy will be under pressure if assets are shuffled from government securities (with their lower risk weight) to equity investments, which has 100 per cent risk weight. Since most government banks have capital constraints, any increase in investment in equity will add to their woes," says the report.

The report opines that for transparency purpose, it is necessary that the RBI instruct banks to disclose separately investment in shares and equity linked mutual fund units rather than the present norm of clubbing in equity investments with preference shares.