FCNR golden goose: Great returns on borrowed capital

Foreign banks are scrambling to raise dollar deposits from non-resident Indians — even tempting them with loans — to open their foreign currency non-resident (bank), or FCNR (B), deposit accounts in India.

The move comes after the Reserve Bank of India (RBI), as part of its efforts to stem the rupee’s depreciation, opened a special window for swapping FCNR (B) dollar funds of three years or more at a concessional rate and offered various other incentives, including cheap dollar-rupee swap rates.

Observers say this has offered Indians residing abroad an opportunity to increase their income manifold using borrowed capital.

The process, as bankers and market participants explains, begins with a foreign bank requesting a non-resident to open a FCNR (B) deposit account with its India unit. The bank immediately offers the customer a loan against this deposit. The customer uses the loan to create another FCNR (B) deposit account, against which he is again given a loan. The process is repeated eight to 10 times. The customer benefits as he earns more interest on FCNR (B) deposits than he pays on loans against those.

Some of the Indian banks with foreign branches have also approached their non-resident customers to raise FCNR (B) deposits, but observers say these lenders are not as aggressive as their foreign rivals.

Industry analysts say, using this mechanism, non-resident Indians (NRIs) can make a net return that is significantly higher than the interest rates offered on deposits in developed markets like the US. The returns would easily lure NRIs. According to some estimates, by putting up just 10 per cent of the deposits, the client effectively makes between 18 and 21 per cent on the dollars.

The process, however, has raised concerns of systemic risk.

“The 2008-09 crisis was triggered by over-leveraging. We are again seeing foreign banks encouraging leveraging. There are reports that lenders are offering NRIs upfront loans against FCNR (B) deposits and repeating the process. Such leveraged money can leave as abruptly as it comes in, thereby increasing systemic risk,” Ajit Ranade, chief economist of Aditya Birla Group, says.
 On September 4, 2013, in an almost desperate move to arrest the slide the rupee, RBI had announced a window for swapping FCNR (B) dollar funds, mobilised for a period of at least three years, at a fixed rate of 3.5 per cent a year for the duration of the deposit. The scheme, the central bank had said, would remain operational until November 30, 2013.

In other words, the banking regulator is now permitting lenders to convert three-year FCNR (B) dollar deposits into rupees at 3.5 per cent, even though the swap cost, considering the recent rupee-dollar forward rates, is estimated to be more than six per cent. This has encouraged banks to mobilise FCNR (B) dollar deposits, as they can reduce their cost of fund by at least 250 basis points using this window.

“It is a win-win situation for all. The interest rates offered to non-residents on three-year FCNR (B) deposits in India are significantly more than the current dollar swap rate of 80 basis points a year for a comparable tenure. Banks will benefit, as they will have access to low-cost funds. And, ultimately, this will increase dollar flows into India,” Param Sarma, director and chief executive of NSP Treasury Risk Management Services, says.

Market participants expect banks to bring in over $10 billion through this route which will probably avoid the need for an immediate sovereign bond issue by the government.

“The swap window was necessitated by a sharp depreciation in the rupee and need to bridge the current account gap. There was a need for one large chunk of dollar inflow, which probably led to the introduction of this scheme. However, it is a subsidy, assuming the rupee-dollar swap cost is currently over six per cent. This subsidy will have to be borne by the country,” says Mecklai Financial Deputy CEO Partha Bhattacharyya.

Some industry analysts believe the subsidy burden on Indian taxpayers because of this move might be as high as Rs 2,000 crore a year, assuming banks bring in $10 billion of FCNR (B) deposits.

“We discontinued FCNR (A) deposits since we did not want to bear the entire currency risk, and these deposits also violated IMF (International Monetary Fund) conditions. But by allowing swap at a concessional rate of 3.5 per cent for FCNR (B), we are going back to the FCNR (A) regime, at least partly. I believe, we should be explicit in saying what would be the estimated cost of this subsidy, since the deposits might run up to five years,” Ranade adds.

Chidambaram and Modi are sparring over growth figures. Who is correct?

The finance minister says the BJP Prime Ministerial nominee's claim that economic growth rate during the tenure of the Atal Behari Vajpayee government was 8.4% a year on average. Calling Modi's claim a 'fake encounter' with facts, Chidambaram says the average annual growth for the six-year NDA period stood at 6% and that for the last five years at 5.9%. Obviously one of the two is wrong. Is it Chidambaram or Modi? Do share your views with us.

Oberoi Realty share sale begins, stock falls 3%

Oberoi Realty is trading lower by 3% at Rs 164 on NSE after the real estate firm’s share sale programme for diluting 3.49% of the promoter’s stake commenced today at bourses.

The company’s CMD and promoter Vikas Oberoi will sell 11.4 million shares at Rs 158 per share through stock exchanges to meet market regulator Sebi's guidelines on minimum public share holding norm, Oberoi Realty said in a regulatory filing.

As on June 30, 2013, the promoters had 78.49% in the company and they need to pare their stake to 75% for meeting Sebi guideline on minimum 25% public shareholding for private sector listed companies.

The stock hit high of Rs 165 and low of Rs 163 so far. A combined around 20,000 shares change hands on the counter in early morning deals on NSE and BSE.

RBI assures Street on liquidity management

The Reserve Bank of India (RBI) on Wednesday assured the market it was closely monitoring liquidity conditions. It added it would take appropriate action, including open market operations, to ensure adequate liquidity was available to support the flow of credit to productive sectors of the economy.

Experts said the statement would result in government bond yields falling further on Thursday.

Beginning with the mid-quarter review of monetary policy on Friday, RBI began a calibrated unwinding of the exceptional measures announced since July to restore normalcy to financial flows. Currently, RBI is injecting about Rs 1.5 lakh crore into the system on a daily basis, through the liquidity adjustment facility, the export credit refinance facility and the marginal standing facility.

However, despite this, liquidity conditions have been tightening, as shown by the hardening of yields in the government securities market, owing to uncertainty on the government’s borrowing programme for the second half of 2013-14 and the prospective effects of banks’ half-yearly account closure. The seasonal pick-up in credit demand, the festive-season-related demand for currency and the sluggish deposit growth have also contributed to the tight liquidity.

On Wednesday, the yield on the 10-year 7.16 per cent benchmark government bond closed at 8.79 per cent, compared with its previous close of 8.84 per cent. Experts said the RBI’s assurance was necessary, as two government bond auctions were scheduled for this week.

On Monday, a government bond auction for a notified Rs 15,000 crore devolved partially on primary dealers to the tune of Rs 4,030 crore. On Friday, RBI would auction government bonds for a notified Rs 14,000 crore.

PM-Sharif meet to focus on trade

While the situation on the Line of Control in Jammu and Kashmir will definitely be discussed when Prime Minister Manmohan Singh meets his Pakistani counterpart, Nawaz Sharif, in New York on the sidelines of the United Nations General Assembly, it was emphasised by high-level sources on Wednesday that progress on trade would be made, as there is a concrete agenda to be followed for that.

The sources, who spoke on the condition of confidentiality, said that a significant step forward in exporting electricity to Pakistan could happen as early as next week. It had been held up, they claimed, not for political reasons but because the Pakistani side was evaluating its technical and commercial viability. However, it is believed that process is close to conclusion, and Pakistan may express formal interest in cross-border electricity trade, sending a delegation on the subject, within a week. Sharif and Singh are likely to meet on Sunday.

In another significant development, the Nuclear Power Corporation of India Limited, or NPCIL, will likely move forward within a few days on evaluating the terms of a possible contract with nuclear supplier Westinghouse. A limited exploratory agreement might be in place between the two companies, according to the highly-placed sources, before Singh meets US President Barack Obama on Friday. This is in spite of concerns expressed domestically that US companies, including Westinghouse, wish to dilute the nuclear liability legislation passed by the Parliament beyond recognition.

A lack of progress in transforming the US-India civil nuclear agreement of 2008 into real projects on the ground is often cited as a major cause for a chill in bilateral relations. However, officials close to the prime minister strongly denied that the United States had any ground for disappointment, and suggested that such claims may just be an American negotiating tactic.

Singh will also make a pitch for more US investment in India. Although the recent diplomatic coolness between India and the US has been driven in large part by the souring of US business on the India story, officials insisted that the outreach was not unusual. Reporters were told that a ramped-up pitch for investment will be the one consistent theme of all major upcoming foreign visits, including to China. The PM is scheduled to meet a group of US CEOs in New York City later this week.