Date:15/11/2006 URL: http://www.thehindubusinessline.com/2006/11/15/stories/2006111505320100.htm

Back RBI cautions banks against market risks

Our Bureau

Banks are unlikely to face credit risk given the current level of economic growth, inflation and the good performance of the industrial sector.

Mumbai , Nov. 14

The Reserve Bank of India has cautioned banks against near-term market risks arising from a possible abrupt asset portfolio reallocation globally.

The source of such risk is the continuing large global financial imbalances, said RBI, in its Report on Trend and Progress of Banking in India, released on Tuesday.

"Should there be abrupt portfolio reallocation, there is a risk of sharp currency readjustments which could cause heightened volatility in the financial markets through changes in exchange rate and interest rate."

In the event of a sharp rise in interest rates, banks may suffer significant marked-to-market losses on their investment portfolio (government securities), though the size of such investments has declined recently, noted the report.

The share of banks' portfolio investments in their total assets has declined to 31.1 per cent from 36.9 per cent last year.

RBI said that in case of a rise in interest rates, banks might also face increased risks on account of their exposure to the asset market (equity and real estate).

Banks have been extending credit for investment in the asset market. "There is a risk that rise in interest rates, in general, could impact the housing prices and expose the balance sheet of households to interest rate risk. This in turn could impact the bank's balance sheet through increase in loan losses," the report said.

In contrast to market risk, the report said banks are unlikely to face credit risk given the current level of economic growth, inflation and the good performance of the industrial sector.