Mumbai, Nov 17: Warning banks that high profits emerging from trading in government securities (G-secs) should not lull them into a state of complacency, Reserve Bank of India has asked banks to put in place appropriate risk management systems, provisioning and build up reserves. "An analysis of the sources of profitability for scheduled commercial banks shows that much of the recent rise in profits emanates from trading income, reflecting the sustained softening of interest rates," RBI said in its "report of trend and progress of banking in India 2002-03" released here today.

The large trading profits emanating from sustained rally in G-secs markets has helped boost banks' bottomlines and provide resources of non-performing assest (NPA) provisioning. Bank balance sheets were, thus, getting linked to interest rate environment. An important facet of risk in case of G-secs relates to interest rate and this was especially relevant in the recent context with banks holding Gilts well above the statutory requirements, it said.

In particular, banks were exposed to repricing risk arising from timing differences in the maturity and repricing of banks' assets and liabilities and yield curve risk arising from changes in the slope and shape of the yield curve, the apex bank added.

"To safeguard the banks against such eventualities, RBI has advised them to build up an investment fluctuation reserve (IFR) since end-march 2002 as a proportion of their traded G-secs portfolio to serve as a cushion against adverse interest rate movements," it said.

Bureau Report