The Reserve Bank of India may consider allowing banks to trade in equity futures and options market in its annual credit policy to be unveiled on Thursday.
Commercial banks have moved the RBI seeking the regulator's clearance to be able to hedge their positions in the market. Banks today are permitted to take exposure to the capital market up to 5 per cent of their outstanding advances in the preceding year.
This is inclusive of investment in equity, units in equity mutual funds, lending against shares, secured and unsecured advances to stockbrokers as well as guarantees issued on behalf of stock brokers and market makers. The RBI has permitted HDFC Bank to raise its equity exposure to 8 per cent.
Most of the banks, though permitted to undertake proprietary trading, refrain from doing so as they are unable to hedge their exposures.
HDFC Bank does not take much risk exposure, said the bank's managing director Aditya Puri. "If equity derivatives are permitted, banks would be able to leverage their position and increase their equity market exposure by two to three times," said a senior Bank of India official.
Other public sector bankers added that it is difficult to structure one's trading strategy based on risk-return, if Indian the central bank does not permit banks to opt for derivatives.
"We would like permission to trade in equity futures and options. Unable to hedge our risks, it becomes difficult to run our equity portfolio," said G V Nageshwar Rao, CEO commercial banking SBU, IDBI.
Most of the bankers said that had they been allowed to hedge their positions in the cash market through futures and options, they could act as a countervailing force against FIIs outflows.
"If we are allowed to buy in the F&O market, then we can limit our losses, though it would also mean limiting the upside," said a senior PSU bank treasurer.
Banks do not utilise the 5 per cent limit for equity trading, but prefer to lend against shares where they would not need to take any risk exposure.
As per the latest available RBI data, public sector banks have the highest exposure to the capital market at Rs 1,198.65 crore (Rs 11.99 billion), followed by foreign banks at Rs 1,032 crore (Rs 10.32 billion), new private banks at Rs 823 crore (Rs 8.23 billion) and old private banks at Rs 280 crore (Rs 2.8 billion) as on March 2004.
Indian banks can act as support systems for the capital markets through aggressive buying to maintain stability in volatile times, industry observers said.
In May last year, when the BSE Sensex witnessed a 800-point fall, the Government voiced the need for more domestic institutions -- particularly banks -- to play an active role in the market.
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