Windfall for banks with sizeable dollar bond exposures from rupee depreciation

• Rupee depreciation to generate revaluation gains on such assets for banks 
• “Banks with highest dollar bonds may benefit the most,” says First Capital

The banks with a higher exposure to dollar-denominated financial assets such as Sri Lanka Development Bonds (SLDBs) and Sri Lanka International Sovereign Bonds (SLISBs) are expected to make heavy foreign exchange gains from the depreciation seen in the rupee at present, according to First Capital Research. 

Sri Lanka’s banks suffered heavy provisions against the possible losses on SLDBs and SLISBs in 2020, as a result of the higher loss rate applied on such investments due to the increased perceived default risk on such bonds, after the international rating agencies downgraded Sri Lanka’s sovereign rating last year. 

However, banks are expected to make substantial gains from the same investments they hold in such bonds from the depreciation currently seen in the rupee against the US dollar, as they can generate revaluation gains on such assets. 

“Banks adopt a challenging playbook with sovereign bonds with forex gains; the sweetener,” First Capital Research said adding that the banks with the highest total foreign assets to benefit amid currency depreciation.  

The research firm this week maintained its exchange rate target at between Rs.196-Rs.202 for the first half of 2021, with an year-end target at between Rs.205-Rs.215. 

Among the private sector licensed commercial banks, Commercial Bank of Ceylon PLC was holding Rs.182 billion worth of dollar bonds in its books, followed by Hatton National Bank PLC and Sampath Bank PLC, with Rs.169 billion and Rs.93 billion, respectively.

Further, National Development Bank PLC held bonds worth of Rs.20 billion and Nations Trust Bank PLC held Rs.15 billion, making up the five largest private sector commercial banks with most dollar bond holdings. 

“Banks with the highest dollar bonds may benefit the most,” said First Capital Research in reference to the banks with sizeable dollar bond holdings.    

The Central Bank yesterday opened bids for its next SLDB issuance to raise a thumping US $ 750 million, as it looks to rollover a section of the development bonds maturing on May 1. 
The banks remain the leading subscribers of the bonds, as they operate with adequate dollar liquidity waiting to be parked in dollar-denominated instruments, after they were suspended from buying SLISBs to minimise the pressure on the rupee.

Last year, banks accumulated a whopping amount of SLDBs, SLISBs and rupee-denominated Treasury bills and bonds, as they were looking to park their massive amounts of excess liquidity as a result of record stockpiling of deposits by people and corporates compared to subdued growth in loans. “… debt and other instruments such as Treasury bills, Treasury bonds, SLDBs and SLISBs, etc. became the most attractive investment opportunity to divert the bank’s funds. Thus, the debt and other instruments portfolio recorded a considerable growth of 76 percent or Rs.118.8 billion in the year under review,” said one commercial bank on its performance in 2020.