Credit

A volatile week on Dalal Street has ended. With the Nifty closing at 5305, the week saw us go all the way down to the 5160 levels and recover from there; FIIs, on the back of the GS story, sold about 1000 cr. in the first two days of the week and bought back all of that in the course of the next three days.

Banks were the strongest through the week. SBI and ICICI Bank led the pack, which HDFC Bank underperformed.

Bank lending went to 16.95% with data of April 9 announced this week. Fairly healthy, I would say:

Yet another 12,000 cr. auction went through smoothly – but the yields are going up. The 10 year has inched back to 8.06% from the under 8% levels we saw earlier this week. The 6 year bond is now trading at 7.64% which makes for a fairly steep yield curve.

 

(Tenor = actually the year of expiry, 10 meaning 2010 etc.) Basically everything above 2015 trades at 7.5% or more – the 2028 bond must have been a freak trade. This graph is borrowed from CCIL and is all wonky – I need to generate one myself.

Btw, Steep yield curves are good for banks; remember they borrow short and lend long, so if short term borrowing is cheap and long term is expensive…you get the picture.

RBI’s latest data shows Credit Growth at 16.14%.

  

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Is this because of the lower base effect in 2009? Not really, since we have grown 35% since 2008.

However you see it – credit growth is perking up. But this is the beginning of the rate hike cycle, whose effect we will only see after six months or so. Watch this space.

RBI provides the latest credit release. Scheduled bank credit is now at Rs. 30.89 lakh cr. (trillion) which is a gain of 38,000 cr. over two weeks back. This is a credit rise of 15.79% from the same time last year, taking the average growth in Feb 2010 to 15.5%.

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To put things in perpective, we are still lower than May 2009, all the way up to 2007 and probably earlier as well.

Credit growth is great for banks and in general the economy, but helps promote inflation. Typically credit will grow at 2-3x the GDP growth rate if the assets thus bought are put to productive use. If credit is given to bubble assets – like real estate has been, or sometimes stocks – it tends to create default risk as well.

Unfortunately we don’t yet have a handle on how much loans are given to which sectors, but 16% is not “over-heated” growth, just a move back to the good old times.

RBI announced the Credit Figure for 16 Jan, which was at 30.08 trillion rupees (lakh cr.) which is a growth of 13.75% from last year. Monthly averages here:

Given that we’re starting to scale up organized credit, some monetary tightening is expected. Either a Capital Reserve Ratio (CRR) Hike or a Repo Rate hike is on the cards, and reflects in the sentiment of the market. However, if both don’t happen, expect a short term rally.

Credit Growth as of Jan 1, 2009 was at 13.61% year on year, with total outstanding credit crossing 30 trillion rupees for the first time ever.

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It’s the lowest growth in five years though it’s starting to perk up. Banks are starting to lend again, it seems.  There are interesting regulations out there that will change the lending framework.

From bank lending direct, corporates may choose to borrow from the market through corporate bonds, a market that has seen very little focus. But that’s starting to change. RBI has just allowed repo on Corp bonds. Repo means Repurchase agreement, and is typically used as collateral while borrowing (“You buy these bonds from me, I repurchase from you at same price+interest”) So anyone with corporate bonds in their portfolio can use it for borrowing, starting March 2010. Why was it not allowed earlier, you might ask, and Tamal Bandyopadhyay writes on LiveMint about the history:

After serious irregularities in securities transactions that led to India’s biggest stock market scam in 1992, RBI came down heavily on such deals, but the restriction on repo existed even before the scam. A June 1969 government notification, under section 16 of the Securities Contract (Regulation) Act, 1956, prohibits any person from entering a repo deal without its permission. Globally, central banks use this short-term instrument to iron out excessive volatility in the money market. In India, too, RBI has been doing this and it is the sole authority to regulate this market.

In 1987, it even said that the units of the erstwhile Unit Trust of India, the country’s oldest mutual fund and a proxy for any sovereign paper, could not be used as collateral for repo deals. As the repo market grew phenomenally and there was rampant misuse of the facility, in 1988 RBI prohibited banks from entering into repo deals with non-bank clients.

In fact, the genesis of the 1992 stock market scam was a thriving repo market. Some banks used repos to understate their actual liabilities, by advising non-bank customers to lend them money by way of repos instead of placing the same in the form of deposits. There were others who first committed to borrow through repo deals and later invested the funds in securities. In many cases, commitments to repurchase or resell the securities were not even documented. RBI banned repo deals and barred banks from undertaking repos in government bonds and other approved securities with effect from 22 June 1992. Repos in treasury bills, however, were exempted from the prohibition. The restrictions were lifted in phases. In 1995-96, RBI partially reopened the market only for specified government securities, but only banks and primary dealers that buy and sell government securities were allowed to strike repo deals. At the second stage, in 1997-98, all government securities and treasury bills were made repoable and in 2003, mutual funds were allowed into this segment.

Now double-A and better rated corporate bonds are being made repoable but certificates of deposit, commercial paper, and non-convertible debentures of less than one-year tenure will not be eligible for undertaking repos.

Apart from this there are no FII limits on investing in corporate bonds (or it’s an obscenely huge number) – versus foreign investment in govt. debt being capped at a very low number ($200m per entity).

If the corp bond market develops, bank lending may not be a good enough measure. We’ll have to see the overall credit growth picture, which RBI may need to provide in their reporting more often.

RBI's latest credit figures show another uptick in credit growth, taking growth to 10.5% year-on-year. Here are the monthly credit growth statistics (average for the month).

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Early days but December seems to be the first uptick month since October 2008. This seems to show in the Reverse Repo data as well. (Reverse repo is when banks put money with RBI because they have no better use for it and will not consider giving to me instead)

Livemint notes:

The amount of money that banks parked with the Reserve Bank of India (RBI) plummeted on Tuesday and Wednesday, to Rs61,090 crore and Rs59,435 crore, respectively, the lowest numbers seen in the current fiscal and far lower than the approximately Rs1 trillion of overnight money that funds-flush banks have been parking with the central bank over this period.

The fact that banks are parking less money with RBI means that they are perhaps using the money they have in deposit accounts for other purposes, such as buying government bonds or lending to companies and consumers. The other possibility is that companies have withdrawn money from banks to pay higher advance taxes.

So, it is too soon to announce a new momentum in bank credit. Annual bank credit growth as of 21 November was a mere 11.5%, compared with 30%-plus growth in the boom years.

Today was a mere 53,990 crore. Interestingly, the 10-year bond yield has gone to 7.64% - though technically that is part of a contango trade, since we're in December; liquidity is moving to the 2020 bond from the 2019 bond, and the 2020 bond is trading at 7.50%. This is wonky because the tenures are around the same - but the earlier maturity bond gives you 0.14% more, which is like a 6 month deposit paying higher than a 1 year one. If this happens consistently across multiple maturities then they will call it the Inverted Yield Curve, but it tends to happen when people move from one kind of bond to another.

(Usually this would result in some arbitrageurs shorting the far bond and buying the near one - remember lower yields mean higher prices, so the far one will quote at a higher rate relative to the near bond. But RBI places restrictions on shorting bonds, and the facility is only available for on "CBLO" (Collateralised Borrowing and Lending Obligation) which is only available for institutions. You can of course short interest rate futures, and the yields are 8.21% - a much lower rate on the future, meaning you can't short it for as much profit or any at all. Worse, you have to rollover every three months - and the rollover spread is negative for shorters. )

If you don't understand the above paragraph, ditch. It's not that important.

What's interesting is: From 100,000 cr. a day to 50,000 cr.; is this because banks are lending again? Or is it that people have pulled out money from banks and put them in other avenues? The former is a sign of growth - and with inflation where it is, there is going to be an interest rate hike in the offing. The latter is an indicator of a bubble or a liquidity problem, or both.

We'll know how credit growth happened this week after two more weeks (Credit growth reports come once every two weeks) That should give us some ideas. We like to refer to ourselves in the plural every once in a while just so we feel a little important. Yes, it's been that kind of day.

RBI's friday press release on the Scheduled Bank Business in India as of Oct 23 shows a slight problem with Credit Growth, which is now at 9.69%, the lowest in (at least) three years.

Here's a chart of credit growth in the last three years:

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Now it's possible there's a seasonal impact; Diwali last year was in November and this year, it was in October. Credit should usually peak during Diwali, one would think. If you take monthly averages (the reports are fortnightly so usually two figures are available per calendar month), there isn't too much of a visible impact of seasonality - or you would see spikes in Oct/Nov. This year has been bad throughout, but look at October, it's a two story building in a land of skyscrapers.

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The underlying figures show food credit dropping by 6,000 cr. and non-food credit dropping 15,000 cr. in the fortnight from Oct 9 to 23. That's not great news, considering Diwali was on the 17th. What, people took loans and paid them back just after Diwali? I don't think so!

The drop in credit growth isn't quite followed by a drop in deposits - which dropped only 8,000 cr. Banks are still parking upwards of 1 lakh crore - a trillion rupees - every single day in the reverse repo window. This doesn't make sense - the reverse repo pays 3.25%, a lot lesser than deposits demand.

RBI is trying to push for credit growth, but at the same time wants to control inflation if it rears its ugly head. For that, the Statutory Liquidity Ratio, or what is mandated for banks to invest in Government securities, is back to 25%, a 100 bps revision upwards. And importantly, windows that were opened for NBFCs to borrow directly from the RBI have been closed. (Normally, only banks can borrow from RBI)

More importantly perhaps, is the increase of provisioning for commercial real estate loans. To simplify: when a bank lends money it is required to "provision" some of that money from capital against that loan.(not from the deposits or any other money it borrows, but it's equity). This used to be 0.4% for Commercial Real Estate loans - it's now 1%. That should scare off banks from overlending to this sector, just a little bit.

But all of this was done after Oct 23 - the date of the last available credit growth statistic. In about 15 days we'll see how banks have lent AFTER the RBI policy change; it's horrific to see a sub 10% credit growth number when your economy is supposed to be growing at 6% (typically credit grows a 2.5 to 3x multiple of GDP growth).

I'll do another post on bank results - they seem to have done lousy in the banking area and well in the trading area, which reflects in credit statistics; after all, if you're making enough money trading, why bother to lend? This sounds like it applies universally. But these are famous last words...