MUMBAI: Within days of the fiasco at Indusind Bank’s forex derivatives imploding with a Rs 2,000-crore likely hit on its bottom-line, the Reserve Bank (RBI) asked all banks with large forex derivatives books to provide details such as the size of the exposure, hedging and also of their forex deposits.
IndusInd Bank, after being ordered by the regulator to inform the investors about the estimated losses it is likely to book on its forex derivatives book, had on Monday informed exchanges that due to accounting discrepancies and operational missteps which led to not providing for the mark-to-market losses on its forex derivatives book, which are not hedged.
The bank also said it is likely take a hit of up to 2.35% of its networth, which as of December 2024 stood at Rs 64,000 crore. Though the bank did not quantify the likely losses in the filing, the next day, its chief executive officer Sumant Kathpalia told analysts that the presumed losses cannot be passed onto the networth but has to be from the profit and loss account, which analysts expect to be upawards of Rs 2,000 crore.
Following the admission, its stocks tanked over 27% on Tuesday shaving its market capitalisation by Rs 19,000 crore, to around Rs 51,000 crore, which was even less than that of the still struggling Yes Bank.
However, following assurance of capital infusion if needed by Ashok Hinduja, the chairman of the holding company of the bank, the shares rose 4.4% and its market cap gained by over Rs 3,000 crore. Intra-day the shares had jumped 14% but lost the steam after the market turned wobble. The rally was also attributed to Kathpalia saying despite the hit the bank would report profit in Q4.
“The RBI is examining the derivatives exposures of some private and state-run banks which have large forex derivatives books,” a private sector banker whose bank has been asked to provide details of their exposure told The New Indian Express on Wednesday, asking not be identified.
The central bank has asked the lenders to provide the details of their overseas borrowings, forex deposits as well as their forex hedge positions, the banker cited above said, adding “as of now there is no reason to believe the issue is systemwide.
But if the RBI finds any discrepancies, it may ask lenders to go in for an external audit. “Now, the RBI wants to make sure that banks with heavy forex liabilities are not exposed to a situation like that of IndusInd wherein any loss from internal hedges booked previously are not been accounted for later," the banker explained.
The problem started when IndusInd chose not to provide for the mark-to-market losses on its forex derivatives books as asked by the regulator while other banks complied with. It has also not hedged it position.When a bank takes a foreign currency exposure, its trading desk must hedge it at a cost, which is transferred to the asset liability management desk, which is also in-charge of the forex exposure.
When the forex exposures are repaid, a gain or a loss may be booked. In the case of IndusInd, it had heavy losses as most of it was not hedged and also not to book the losses. Instead, it chose to show these losses as receivables and included them as intangible assets in the balance-sheet, a banker with the knowledge of the segment said.
Despite showing mark-to market losses, the bank didn’t make the required provisions, the person added. The RBI typically asks banks for data during routine audits, but the fact that it is being sought now "clearly indicates that the regulator does not want to be caught napping, in case it blows up into a systemic issue", the person explained.
Under the revised Master Direction of the RBI on ‘Classification, valuation and operation of investment portfolio of commercial banks (directions), 2023’ which came into effect from April 1, 2024, Indusind found it difficult to make the provisions or book the losses, but asked for more time from the regulator.
While other banks complied by the June 2024 quarter, Indusind asked for time till September but yet did not comply. This has forced RBI and order it to first to provide for the losses and then inform its investors, which it did this Monday, the banker cited above explained.
According to the master direction, banks have to categorise their derivatives portfolio into three fair value hierarchies—level 1, level 2, and level 3 and disclose it in their financial statements. Banks are also not to pay dividends out of net unrealised gains recognised in the profit and loss account arising on fair valuation of level 3 derivatives assets and liabilities on their balance sheet. Such net unrealised gains on level 3 derivatives shall be deducted from the core or CET 1 capital, says the new norms.
These directions aim to give a fillip to the corporate bond market, facilitate the use of derivatives for hedging and strengthen the overall risk management framework of banks.
On the currency derivative front, the central bank, through a January 5, 2024 circular, said investors must ensure a valid underlying contracted exposure, which has not been hedged using any other derivative contract and that they should be in a position to establish the same if required.The review of the banks’ investment portfolio was carried out on the RBI’s directions issued in September 2023.
Before the new investment norms for banks kicked in from April 2024, banks' asset liability management and treasury desks were permitted to enter into internal swaps, where one cash flow is exchanged for another.
“An early termination of such deals led to profit being accounted for while the loss was not,” Kathpalia had said on Tuesday. The bank has also informed that it has hired PwC as an external auditor to audit its derivatives portfolio in November, which angered the regulator, the source cited above said, adding the bank was not incompliance even by February, forcing the RBI to step up its vigilance and forcing it to make the disclosures on March 10.
The first sign of not everything is right came out between the regulator and the bank when the RBI last Friday refused to give a three-year reappointment that the board wanted for the chief executive Kathpalia instead allowed to continue for one year.
Even in his last reappointment, was also not according to the board recommendation—which again was for three years but got a two-year second term. Kathpalia during the analysts call on Tuesday had even admitted that he felt that the RBI was not comfortable with his position point to the one-year extension he was given.