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Indian Banks Unlikely to Face the Crisis That Has Gripped US Banks and Credit Suisse

Indian banks are likely to not face the same ALM (Asset Liability Mismatch) crisis that has gripped a few US banks and Credit Suisse. If you haven’t read our previous article on the main issue plaguing the western banking system (https://arunasset.com/svb-bank-collapse-whats-asset-liability-mismatch/), then we suggest you do so before going ahead with this.
With a view to building up adequate reserves to protect against increase in yields in future, all banks were advised by the RBI to create an Investment Fluctuation Reserve (IFR) with effect from the year 2018-19.

The Investment Fluctuation Reserves (IFR) created by Banks was to help them in managing interest rate risk. Investment Fluctuation Reserve is generally maintained by the banking companies in order to overcome sudden loss incurred due to a fall in the realizable value of investments.

Banks carry bond portfolios which can be classified into three categories:
1. Held to Maturity (HTM)
2. Available for Sale (AFS)
3. Held for Trading (HFT)

AFS and HFT are marked to market and can cause a loss as interest rates move up.

IFR is created by transferring the gains realised on sale of investments during easing interest rate cycle, and acts as a shock absorber in a tightening phase. All banks were advised to create an Investment Fluctuation Reserve (IFR) to the tune of the following amounts:

An amount not less than the lower of the following:
(a) Profit on sale of investments during the year
(b) Profit for the year less mandatory appropriations shall be transferred to the IFR, until the amount of IFR is at least 2% of the HFT and AFS portfolio.

Until the amount of IFR is at least 2 per cent of the HFT and AFS portfolio, on a continuing basis. It was advised that this be reached over a period of 3 years. By March 2022 our banking system’s IFR reached 2.2 percent of HFT plus AFS portfolios. This helped banks absorb the losses due to rise in government bonds yields in the first quarter of the financial year 2022-23 and resultant treasury losses of 4.9 percent of their operating profit.

Most banks began to create this reserve. Today most Indian banks sit on an IFR to combat asset liability mismatches. Here are some examples:

ICICI Bank: IFR was approximately at 2071cr. The Bank had a treasury loss of 17 cr which was very easy to absorb.

SBI:  IFR was approximately 7600cr. SBI reported a loss of 3100cr on treasury income. Again this was easy to absorb.

Indian banks are able to absorb losses due to rising yields because they created reserves from money made during the good times.

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