Liquidity Coverage Ratio - An analysis
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The document summarizes a study on the Liquidity Coverage Ratio (LCR) across Indian banks. It finds that all banks in the sample meet the minimum LCR requirement of 60%. Over half of banks already meet the final 100% requirement. Public sector banks have an average LCR of 104.76% compared to 87.28% for private banks. The study analyzes IndusInd Bank's LCR components and finds its high cash outflows and low high-quality liquid assets result in a lower LCR compared to other banks. It recommends actions for IndusInd Bank to improve its LCR like increasing high-quality assets and reducing wholesale funding dependence.
Liquidity Coverage Ratio - An analysis
- 1. A study of its implementation in India and comparison of LCR across Indian Banks Under the Guidance of: Mr. Samir Doshi Vice President, IndusInd Bank Dr. V S Kaveri Consulting Professor, NIBM
- 2. IndusInd Bank •Conceptualized by Mr.Srichand P. Hinduja •Started in 1994 •Initial capital base of 100 Crore INR The dawn •Fifth largest private bank in India by market capitalization •Has 801 branches and 1487 ATMs as on 31st March, 2015 •Is included in NIFTY 50 Current Standing •One of the reputed banking brands; Ranked 19th amongst the Top 50 Most Valuable Indian Brands 2014 as per the BrandZ •Brand statement 'You desire, We Deliver' Brand •My Account My Number, Choice Money ATMs, Check-on-Cheque, Cash-on-Mobile, Direct Connect, Quick Redeem Service and 365 Days Banking. •Video Branch Innovations
- 3. Liquidity Coverage Ratio The Liquidity Coverage Ratio (‘LCR’) states that at minimum and on an ongoing basis, the banks must maintain an adequate level of unencumbered High Quality Liquid Assets (HQLA) that can be converted into cash to meet its liquidity needs for a 30 calendar day time horizon under severe liquidity stress scenario. LCR = ≥ 100% LCR Total Net Cash outflow HQLA
- 4. Why LCR was introduced? During the early “liquidity phase” of the financial crisis that began in 2007, many banks – despite adequate capital levels – still experienced difficulties because they did not manage their liquidity in a prudent manner. The crisis drove home the importance of liquidity to the proper functioning of financial markets and the banking sector. 2008 BCBS introduces "Sound Principles" Dec, 2010 BCBS issues Original Standards on LCR January 7, 2013 BCBS issues Final Standards on LCR June 9, 2014 RBI issues final guidelines on LCR Milestones in Implementation of LCR
- 5. LCR: Compliance timeline in major economies Jan 1, 2015 Jan 1, 2016 Jan 1, 2017 Jan 1, 2018 Jan 1, 2019 BCBS LCR Framework 60% 70% 80% 90% 100% EU CRD IV 60% 70% 80% 100% 100% U.S. LCR Proposal 80% 90% 100% 100% 100% LCR: Implementation Timeline in India
- 7. Methodology ..1/2 The Sample of Banks :15 banks; 10 PSBs, 5 Private Coverage: Approximately 35% of Banking sector; 37% of PSBs and 33% of Private banks. Source of Data: Annual Reports(FY 15) of the respective banks.
- 8. Banks are classified as Compliant (LCR>=60%) and Non Compliant (LCR<60%) Composition of Total Cash Outflows, Total Cash Inflows Comparison Study of LCR by Bank Groups(PSBs Vs Private Banks) Comparison Study of LCR across Banks using Stata As the banks of various size are involved in the diverse sample, all the components of LCR are normalized by the Total Assets of the respective bank. Comparison of LCR of IndusInd bank with that of other Banks Methodology ..2/2
- 10. All the banks in the sample are compliant. 34% 13% 53% 60% to 79.99% 80% to 100% Greater than 100% More than half of the banks are already compliant with 100% requirement. 4 Banks have LCR less than 70%(next hurdle). The Breakup of Banks based their LCR. # of Compliant Vs Non Compliant banks
- 11. 104.76% 87.28% 99.82% 0.00% 20.00% 40.00% 60.00% 80.00% 100.00% 120.00% Public Sector Banks Private Sector Banks All Banks LCR Avg LCR For PSBs, the LCR ranges from 67.28 %( Vijaya Bank) to as high as 143.53 %( Syndicate Bank) In case of Private Banks, LCR ranges from 61.74 %( IndusInd Bank Limited) to 111.13 % (DCB Ltd). Range of LCR by Bank Group AverageLCRbyBankGroup
- 12. R² = 0.3587 0 0.2 0.4 0.6 0.8 1 1.2 1.4 1.6 0 0.02 0.04 0.06 0.08 0.1 0.12 0.14 0.16 LCR Percentage of Weighted Wholesale Funding LCR Scatter Plot of Normalised Wholesale Funding to the LCR
- 13. 23% 61% 7% 4% 5% Retail & Small Business Wholesale funding Derivatives, Debt and Credit and liquidity Other contractual funding obligations Other contingent funding obligations Composition of Total Cash Outflows Composition of Total Cash Inflows
- 14. 3.49% 8.94% 1.51% 0.71% 0.70% 1.64% 10.06% 7.13% 2.80% 0.18% 0.00% 2.00% 4.00% 6.00% 8.00% 10.00% 12.00% All Banks IndusInd Bank At 6.93%, IndusInd bank’s Total HQLA (weighted) as a percentage of Total Assets is lowest among the Sample. IndusInd bank’s Total Cash outflow as a percentage of its total Assets is the highest among the banks analyzed. The Bank has healthy Cash inflows. Lower proportion of HQLA is led to lower value of LCR. Normalised Outflows of IndusInd Bank Vs Other banks
- 15. Conclusions & Recommendations …1/2 All the banks analyzed have met the minimum requirement with ease. As it stands out right now, most banks are already on course to meet the final requirement of maintaining 100% LCR. With the economy picking up, there will be increase in the demand for credit. Therefore, going forward active balance sheet management is required to meet the future requirement milestones. Banks must improve their CASA, and reduce their dependency on the wholesale funding to improve their LCR values.
- 16. Conclusions & Recommendations …2/2 In order to comply with the future milestones and improve its standing in the industry with respect to LCR, it is suggested, the bank should carry out following actions: Improve its High Quality Liquid Assets by increasing investments in SLR category assets and other Level 2 category assets. Reduce the Total Cash outflows. Specifically, the bank must reduce its dependency on the wholesale funding. It must focus on building stable retail deposits. More importantly, it must reduce its exposure to the Derivatives and other collaterals. Also, decrease the exposure towards other contractual obligation. Maintain current pattern of excellent Total Cash inflows.
- 17. Scope for Future Study A Study similar to this can be undertaken every year to analyze whether the banks are compliant with the guidelines. The study can be further deepened to further analyze the changes in the composition of HQLA, Cash outflows, Cash Inflows over the years.