Bank stocks are back in the limelight.
The government’s formal nod for the rights issue of State Bank of India (SBI), the country’s largest lender, has helped whet investors’ appetite for the sector. However, the main trigger for the bullishness is the benign interest rate outlook.
The market has started punting on a possible rate cut by the Reserve Bank of India (RBI). This is unlikely to happen in the last week of January when RBI announces its quarterly review of monetary policy, but it’s fairly certain that the policy rate may not remain at the current level for long.
If the interest rates indeed go down, banks’ loan growth will pick up, boosting their interest income. But, more important than that, banks will start making money in the debt market. In a declining interest rate scenario, bond prices rise and banks profit from trading in bonds.
The yield on the 10-year benchmark government bond has already come down from where it was a few months back, sensing a rate cut. Yield and prices of bonds move in opposite directions.
The biggest beneficiary of the rise in prices of bank stocks is the government, the majority-owner of Indian public sector banks. If the government decides to seize this opportunity and sell its stakes in these banks, it will make more than Rs1 trillion, about five times of what it had invested in these banks between mid-1990s and early this century, in the form of recapitalization bonds.
I am talking about those 19 banks that got the government’s largesse and not SBI and its seven associate banks and the Industrial Development Bank of India, a project finance institution that has converted itself into a commercial bank.
In early 1990s, when the Union government introduced new prudential norms to clean up the banking system, it found that a substantial portion of distressed assets had created huge holes in banks’ balance sheets.
The banks were asked to provide for such bad assets, but they did not have enough capital and reserves to do so. So, the government had to step in and pump in money in the form of long-term bonds. For instance, the Chennai-based Indian Bank, which saw its entire net worth get wiped out by huge loss in fiscal 1996, received Rs4,564.94 crore worth of largesse from the government in phases until the beginning of this century. Its losses were on account of massive provisions that it had to make for its distressed assets.
Two Kolkata-based public sector banks, Uco Bank and United Bank of India, received Rs2,256.52 crore and Rs1,808.06 crore, respectively, from the government as both of them had piled up huge bad assets. The Central Bank of India, which got listed on bourses a few months back, received Rs1,798.20 crore; Bank of India got Rs1,694.49 crore; Indian Overseas Bank Rs1,320.60 crore; Syndicate Bank got Rs1,279.09 crore and Punjab and Sind Bank got Rs1,203.64 crore. All other public sector banks received money from the government with the amount varying between Rs80.40 crore (Corporation Bank) and Rs777.53 crore (Allahabad Bank).
The beneficiary of the government largesse is not the banking sector alone. It stood by financial institutions as well as Unit Trust of India (UTI), the country’s oldest mutual fund, in times of crisis. The final rescue package for UTI was worth more than Rs14,000 crore.
Similarly, the government provided close to Rs5,000 crore to Industrial Development Bank of India, Exim Bank, Small Industries Development Bank of India and the now-defunct Industrial Investment Bank of India in various forms. Overall, more than Rs45,000 crore of taxpayers’ money has been used to bail out the Indian financial system.
In Japan and some of the Latin American countries, the financial sector bailout packages are much bigger, as much as 100% of their gross domestic products (GDPs). In case of India, the proportion of such a package to the country’s GDP is very small.
Meanwhile, if the government wants it can get back its money with handsome returns by selling its stakes in public sector banks. Except for Punjab and Sind Bank and United Bank of India, all other public sector banks are listed entities and their collective market capitalization was Rs1,63,081.74 crore on 31 December. The government stake in these banks varies between 51.08% (Oriental Bank of Commerce) and 80.20% (Central Bank of India) and the value of such stakes was Rs1,02,675.83 crore on 31 December—more than double the money the government has infused in the Indian financial sector.
By law, the government stake in public sector banks cannot go down to under 51%. This means the gain is only notional and it cannot actually encash it until the law is changed. However, it can certainly reap the benefit of the bull run on bourses by selling its stakes directly in the market when some of the banks plan to raise money from the public.
For instance, the government stake in quite a few listed banks is at least 70% and these banks will soon tap the market to raise fresh capital. Traditionally, whenever a public sector bank enters the capital market, it issues fresh shares and the government stake comes down because of expansion in the equity base. The norm can be changed and the government can sell its stakes directly to recover part of the money that it has invested in the sector.
Tamal Bandyopadhyay keeps a close eye on all things banking from his perch as the Mumbai bureau chief of Mint. Please email comments to firstname.lastname@example.org