The Reserve Bank of India (RBI) on Friday proposed allowing banks to keep corporate bonds, or even equity shares of subsidiaries, associates and joint ventures in the held-to-maturity category (HTM) of their investment books.
An investment in the HTM category doesn’t require to be valued at the current market price, and therefore, banks do not have to incur mark-to-market losses if the current prices of the instruments dip in the market.
Earlier, only government and state government securities, and certain securities by infrastructure companies were allowed in the HTM category. Also, banks were not allowed to keep more than 25 per cent of their total investments in this category.
In a draft discussion paper on prudential norms on investments by banks, the central bank proposed removing the ceiling on investments in HTM as a percentage to total investments and also the ceiling on SLR securities that can be held there. Feedback on the draft can be given by February 15.
This, according to experts, will allow banks to buy more bonds, both government and corporate, thereby increasing the investor base for these securities.
However, the “controls for sales out of HTM (barring certain existing exemptions) shall be tightened to ensure that the basic principles and tenets for classification of securities as HTM and valuing them at cost is not invalidated,” the draft discussion paper said.
For example, “only debt instruments with fixed or determinable payments and fixed maturity with the intent of holding till maturity shall be classified under HTM”. This can be even corporate bonds, while the central bank made exceptions for the equities of subsidiaries.
The investment portfolio of banks will be categorized into HTM, Available for Sale (AFS) and Fair Value through Profit and Loss Account (FVTPL). Within FVTPL, Held for Trading (HFT) will be a sub-category.
The FVTPL will be the residual category where all investments that do not qualify for inclusion in HTM or AFS shall be categorised. This category can have investments such as securitisation receipts (SRs), mutual funds, alternate investment funds, equity shares, derivatives (including those undertaken for hedging), among others, which do not have any contractually specified periodic cash flows that are solely payments of principal and interest on principal outstanding can be kept.
In any of these categories, while valuing the assets initially, if a security cannot be assessed due to lack of market quotes, losses will have to be immediately recognised while the gains should be deferred.
Securities held in HTM will have to be carried at cost and will not require marking to market after initial recognition with any discount or premium on the acquisition being amortised over the life of the instrument. However, these assets have to be assessed on a quarterly basis to account for any permanent diminution in value and the impairment, if any, must be debited to the Profit and Loss account, the RBI said.
The central bank also said it was open to review some of its extant norms on valuation of assets, based on market feedback.
For example, the current norms say the AFS/HFT must require losses but any net appreciation in value is ignored.
“In addition to not being in alignment with the global standards, such asymmetric treatment stifles the development of derivative markets which could be used for hedging risk,” the draft said.