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RBI Notification Circulars Master Circulars DBOD.No.BP.BC. 21 /21.04.141/2003-04, Dt. 02/09/2003

DBOD.No.BP.BC. 21 /21.04.141/2003-04, Dt. 02/09/2003

Master Circular-Prudential Norms for Cassification, Valuation and Operation of Investment Portfolio by Banks

Please refer to the Master Circular No.DBOD.BP.BC.3/21.04.141/2002-03 dated July 11, 2002 consolidating instructions / guidelines issued to banks till June 30, 2002 on matters relating to prudential norms for classification, valuation and operation of investment portfolio by banks. The Master Circular has been suitably updated by incorporating instructions issued upto June 30, 2003 and has been placed on the RBI web-site (http://www.rbi.org.in).

The Master Circular is a compiliation of all instructions issued by RBI on the above subject, which are operational as on the date of this circular.

Yours faithfully,

Sd/-
(B. Mahapatra)
Chief General Manager

Master Circular-Prudential Norms for Classification, Valuation and Operation of Investment Portfolio by Banks

1. Introduction

With the introduction of prudential norms on capital adequacy, income recognition, asset classification and provisioning requirements, the financial position of banks in India has improved in the last few years. Simultaneously, trading in securities market has improved in terms of turnover and the range of maturities dealt with. In view of these developments and taking into consideration the evolving international practices, Reserve Bank of India has issued guidelines on classification, valuation and operation of investment portfolio by banks from time to time as detailed below:

1.2 Investment Policy

i) Banks should frame and implement a suitable investment policy to ensure that operations in securities are conducted in accordance with sound and acceptable business practices. While framing the investment policy, the following guidelines are to be kept in view by the banks;

a. No sale transactions should be put through without actually holding the security in its investment account i.e. under no circumstances, a bank should hold a oversold position in any security. However, banks successful in the auction of primary issue of Government securities, may, enter into contracts for sale of the allotted securities in accordance with the terms and conditions as per Annexure I.

b. All the transactions put through by a bank, either on outright basis or ready forward basis and whether through the mechanism of Subsidiary General Ledger (SGL) Account or Bank Receipt (BR), should be reflected on the same day in its investment account and, accordingly, for SLR purpose wherever applicable.

c. The brokerage on the deal payable to the broker, if any, (if the deal was put through with the help of a broker) should be clearly indicated on the notes/ memoranda put up to the top management seeking approval for putting through the transaction and a separate account of brokerage paid, broker-wise, should be maintained.

d. For issue of BRs, the banks should adopt the format prescribed by the Indian Banks' Association (IBA) and strictly follow the guidelines prescribed by them in this regard. The banks, subject to the above, could issue BRs covering their own sale transactions only and should not issue BRs on behalf of their constituents, including brokers.

e. The banks should be circumspect while acting as agents of their broker clients for carrying out transactions in securities on behalf of brokers.

f. Any instance of return of SGL form from the Public Debt Office of the Reserve Bank for want of sufficient balance in the account should be immediately brought to Reserve Bank's notice with the details of the transactions.

g. Banks desirous of making investment in equity shares / debentures should observe the following guidelines:

ii) With the approval of respective Boards, banks should clearly lay down the broad investment objectives to be followed while undertaking transactions in securities on their own investment account and on behalf of clients, clearly define the authority to put through deals, procedure to be followed for obtaining the sanction of the appropriate authority, procedure to be followed while putting through deals, various prudential exposure limits and the reporting system. While laying down such investment policy guidelines, banks should strictly observe Reserve Bank's detailed instructions on the following aspects:

iii) A copy of the Internal Investment Policy Guidelines, duly framed by the bank with the approval of its Board, should be forwarded to the Reserve Bank (if not already done) certifying that the same is in accordance with the RBI guidelines and that, the same has been put in place.

iv) The aforesaid instructions will be applicable mutatis mutandis, to the subsidiaries and mutual funds established by banks, except where they are contrary to or inconsistent with, specific regulations of Securities and Exchange Board of India and Reserve Bank of India governing their operations.

1.2.1 Ready Forward Contracts in Government Securities.

(i) In terms of the notification No. S.O. 131(E) dated January 22, 2003 issued by Reserve Bank of India under powers derived under Section 29A of the Securities Contracts (Regulation) Act (SCRA), 1956, the terms and conditions subject to which ready forward contracts (including reverse ready forward contracts) may be entered into, are as under:

a. Ready forward contracts may be undertaken only in (i) Dated Securities and Treasury Bills issued by Government of India and (ii) Dated Securities issued by State Governments.

b. Ready forward contracts in the above mentioned securities may be entered into by

c. All persons or entities specified at (ii) above can enter into ready forward transactions among themselves subject to the following restrictions :

d. All ready forward contracts shall be reported on the Negotiated Dealing System (NDS). In respect of ready forward contracts involving gilt account holders, the custodian (i.e., the CSGL account holder) with whom the gilt accounts are maintained will be responsible for reporting the deals on the NDS on behalf of the constituents (i.e. the gilt account holders).

e. All ready forward contracts shall be settled through the SGL Account / CSGL Account maintained with the Reserve Bank of India, Mumbai, with the Clearing Corporation of India Ltd. (CCIL) acting as the central counter party for all such ready forward transactions.

f. The custodians should put in place an effective system of internal control and concurrent audit to ensure that :

g. The RBI regulated entities can undertake ready forward transactions only in securities held in excess of the prescribed Statutory Liquidity Ratio (SLR) requirements.

h. No sale transaction shall be put through without actually holding the securities in the portfolio by a seller of securities in the first leg of a ready forward transaction.

i. Securities purchased under the ready forward contracts shall not be sold during the period of the contract.

(ii) The above terms and conditions will be the relevant terms and conditions specified by the Reserve Bank of India under its notification No.S.O.131(E) dated January 22, 2003 issued in exercise of the powers conferred on the Reserve Bank of India under Section 16 of the Securities Contracts (Regulation) Act, 1956 (42 of 1956) vide Government of India Notification No.183(E) dated 1st March, 2000, issued under Section 29A of the Act, ibid.

(iii) Prohibition against buy-back arrangements

a. Double ready forward deals in Government securities including treasury bills are strictly prohibited.

b. No ready forward and double ready forward deals should be put through even among banks and even on their investment accounts in other securities such as public sector undertakings bonds, units of UTI, etc.

c. Similarly, no ready forward and double ready forward deals should be entered into in any securities including Government securities, on behalf of other constituents including brokers.

(iv) The guidelines for uniform accounting for Repo / Reverse Repo transactions are furnished in Paragraph 4.

1.2.2 Transactions through SGL account

The following instructions should be followed by banks for purchase/ sale of securities through SGL A/c under the Delivery Versus Payment (DVP) System wherein the transfer of securities takes place simultaneously with the transfer of funds. It is, therefore, necessary for both the selling bank and the buying bank to maintain current account with the RBI. As no Overdraft facility in the current account would be extended, adequate balance in current account should be maintained by banks for effecting any purchase transaction.

1.2.3 Use of Bank Receipt (BR)

i) The banks should follow the following instructions for issue of BRs :

a. No BR should be issued under any circumstances in respect of transactions in Govt. securities for which SGL facility is available.

b. Even in the case of other securities, BR may be issued for ready transactions only, under the following circumstances:

c. No BR should be issued on the basis of a BR (of another bank) held by the bank and no transaction should take place on the basis of a mere exchange of BRs held by the bank.

d. BRs could be issued covering transactions relating to banks’ own Investments Accounts only, and no BR should be issued by banks covering transactions relating to either the Accounts of Portfolio Management Scheme (PMS) Clients or Other Constituents' Accounts, including brokers.

e. No BR should remain outstanding for more than 15 days.

f. A BR should be redeemed only by actual delivery of scrips and not by cancellation of the transaction/set off against another transaction. If a BR is not redeemed by delivery of scrips within the validity period of 15 days, the BR should be deemed as dishonoured and the bank which has issued the BR should refer the case to the RBI, explaining the reasons under which the scrips could not be delivered within the stipulated period and the proposed manner of settlement of the transaction.

g. BRs should be issued on semi-security paper, in the standard format (prescribed by IBA), serially numbered and signed by two authorised officials of the bank, whose signatures are recorded with other banks. As in the case of SGL forms, there should be a control system in place to account for each BR form.

h. Separate registers of BRs issued and BRs received should be maintained and arrangements should be put in place to ensure that these are systematically followed up and liquidated within the stipulated time limit.

i. The banks should also have a proper system for the custody of unused B.R. Forms and their utilisation. The existence and operations of these controls at the concerned offices/ departments of the bank should be reviewed, among others, by the statutory auditors and a certificate to this effect may be forwarded every year to the Regional Office of DBS, under whose jurisdiction the Head Office of the bank is located.

j. Any violation of the instructions relating to BRs would invite penal action, which could include raising of reserve requirements, withdrawals of refinance facility from the Reserve Bank and denial of access to money markets. The Reserve Bank may also levy such other penalty as it may deem fit in accordance with the provisions of the Banking Regulation Act, 1949.

1.2.4 Retailing of Government Securities

The banks may undertake retailing of Government securities with non-bank clients subject to the following conditions:

i. Such retailing should be on outright basis and there is no restriction on the period between sale and purchase.

ii. The retailing of Government securities should be on the basis of ongoing market rates/ yield curve emerging out of secondary market transactions.

iii. No sale of Government securities should be effected by banks unless they hold the securities in their portfolio either in the form of physical scrips or in the SGL Account maintained with the Reserve Bank of India.

iv. Immediately on sale, the corresponding amount should be deducted by the bank from its investment account and from its SLR assets.

v. Banks should put in place adequate internal control checks/ mechanisms as indicated in paragraph 1.2.5.

vi. These transactions should be subjected to concurrent audit by internal auditors/ external auditors and results of their audit should be placed before the CMD of the bank every month. These audit reports are also to be submitted to a separately constituted Cell on supervision of funds management operations in banks in RBI.

1.2.5 Internal Control System

i) The banks should observe the following guidelines for internal control system in respect of investment transactions :

a. There should be a clear functional separation of (i) trading, (ii) settlement, monitoring and control and (iii) accounting. Similarly, there should be a functional separation of trading and back office functions relating to banks' own Investment Accounts, Portfolio Management Scheme (PMS) Clients' Accounts and other Constituents (including brokers’) accounts. The Portfolio Management service may be provided to clients, subject to strictly following the guidelines in regard thereto (covered in paragraph 1.3.3). Further, PMS Clients Accounts should be subjected to a separate audit by external auditors.

b. For every transaction entered into, the trading desk should prepare a deal slip which should contain data relating to nature of the deal, name of the counter-party, whether it is a direct deal or through a broker, and if through a broker, name of the broker, details of security, amount, price, contract date and time. The deal slips should be serially numbered and controlled separately to ensure that each deal slip has been properly accounted for. Once the deal is concluded, the dealer should immediately pass on the deal slip to the back office for recording and processing. For each deal there must be a system of issue of confirmation to the counterparty. The timely receipt of requisite written confirmation from the counterparty, which must include all essential details of the contract, should be monitored by the back office.

c. Once a deal has been concluded, there should not be any substitution of the counter party bank by another bank by the broker, through whom the deal has been entered into; likewise, the security sold/purchased in the deal should not be substituted by another security.

d. On the basis of vouchers passed by the back office (which should be done after verification of actual contract notes received from the broker/ counterparty and confirmation of the deal by the counterparty), the Accounts Section should independently write the books of account.

e. In the case of transaction relating to PMS Clients’ Accounts (including brokers), all the the relative records should give a clear indication that the transaction belongs to PMS Clients/ other constituents and does not belong to bank's own Investment Account and the bank is acting only in its fiduciary/ agency capacity.

f.

g. Banks should put in place a reporting system to report to the top management, on a weekly basis, the details of transactions in securities, details of bouncing of SGL transfer forms issued by other banks and BRs outstanding for more than one month and a review of investment transactions undertaken during the period.

h. Banks should not draw cheques on their account with the Reserve Bank for third party transactions, including inter-bank transactions. For such transactions, bankers' cheques/ pay orders should be issued.

i. In case of investment in shares, the surveillance and monitoring of investment should be done by the Audit Committee of the Board, which shall review in each of its meetings, the total exposure of the bank to capital market both fund based and non-fund based, in different forms as stated above and ensure that the guidelines issued by RBI are complied with and adequate risk management and internal control systems are in place;

j. The Audit Committee should keep the Board informed about the overall exposure to capital market, the compliance with the RBI and Board guidelines, adequacy of risk management and internal control systems;

k. In order to avoid any possible conflict of interest, it should be ensured that the stockbrokers as directors on the Boards of banks or in any other capacity, do not involve themselves in any manner with the Investment Committee or in the decisions in regard to making investments in shares, etc., or advances against shares.

l. The internal audit department should audit the transactions in securities on an on going basis, monitor the compliance with the laid down management policies and prescribed procedures and report the deficiencies directly to the management of the bank.

m. The banks' managements should ensure that there are adequate internal control and audit procedures for ensuring proper compliance of the instructions in regard to the conduct of the investment portfolio. The banks should institute a regular system of monitoring compliance with the prudential and other guidelines issued by the RBI. The banks should get compliance in key areas certified by their statutory auditors and furnish such audit certificate to the Regional Office of Department of Banking Supervision of RBI under whose jurisdiction the HO of the bank falls.

1.2.6 Engagement of brokers

i) For engagement of brokers to deal in investment transactions, the banks should observe the following guidelines :

Explanation :

ii) Inter-bank securities transactions should be undertaken directly between banks and no bank should engage the services of any broker in such transactions.

Exceptions:

1Note (i)

Banks may undertake securities transactions among themselves or with non bank clients through members of the National Stock Exchange (NSE), OTC Exchange of India (OTCEI) and the Stock Exchange, Mumbai(BSE). If such transactions are not undertaken on the NSE, OTCEI or BSE, the same should be undertaken by banks directly, without engaging brokers.

Note (ii)

Although the Securities Contracts (Regulation) Act, 1956 defines the term `securities' to mean corporate shares, debentures, Govt. securities and rights or interest in securities, the term `securities' would exclude corporate shares. The Provident/ Pension Funds and Trusts registered under the Indian Trusts Act, 1882, will be outside the purview of the expression `non-bank clients' for the purpose of note (i) above.

1.2.7 Audit, review and reporting of investment transactions

The banks should follow the following instructions in regard to audit, review and reporting of investment transactions :

a. Banks should undertake a half-yearly review (as of 30 September and 31 March) of their investment portfolio, which should, apart from other operational aspects of investment portfolio, clearly indicate and certify adherence to laid down internal investment policy and procedures and Reserve Bank guidelines, and put up the same before their respective Boards within a month, i.e by end-April and end-October.

b. A copy of the review report put up to the Bank's Board, should be forwarded to the Reserve Bank (concerned Regional Office of DBS) by 15 November and 15 May respectively.

c. In view of the possibility of abuse, treasury transactions should be separately subjected to a concurrent audit by internal auditors and the results of their audit should be placed before the CMD of the bank once every month. These audit reports should be sent to the Regional Office of Department of Banking Supervision (DBS) of the Reserve Bank under whose jurisdiction the Head Office of the bank falls.

1.2.8 Non- SLR investments

i. Banks have made significant investment in privately placed unrated bonds and, in certain cases, in bonds issued by corporates who are not their borrowers. While assessing such investment proposals on private placement basis, in the absence of standardised and mandated disclosures, including credit rating, banks may not be in a position to conduct proper due diligence to take an investment decision. Thus, there could be deficiencies in the appraisal of privately placed issues. While it is not the intention to prohibit banks from subscribing to unrated instruments on private placement basis, however, as such investments could cause some concern, banks should put in place appropriate systems to ensure that investment in privately placed unrated instruments is made in accordance with the systems and procedures prescribed under the respective bank’s investment policy approved by the Board.

ii. Further, the risk arising from inadequate disclosure in offer documents should be recognised and banks should prescribe minimum disclosure standards as a policy with Board approval. In this connection, Reserve Bank of India had constituted a Technical Group comprising officials drawn from treasury departments of a few banks and experts on corporate finance to study, inter-alia, the methods of acquiring, by banks, of non-SLR investments in general and private placement route, in particular, and to suggest measures for regulating these investments. The Group had designed a format containing the minimum disclosure requirements as well as certain conditionalities regarding documentation and creation of charge for private placement issues, which may serve as a 'best practice model' for the banks. The details of the Group’s recommendations are given in the Annexure IV and banks may introduce with immediate effect a suitable format of disclosure requirements on the lines of the recommendations of the Technical Group with the approval of their Board.

iii. With a view to ensuring that the investments by banks in unrated issues through private placement, both of the borrower customers and non-borrower customers, do not give rise to systemic concerns, it is necessary that banks should ensure that their investment policies duly approved by the Board of Directors are formulated after taking into account the following aspects:

iv. Some banks / FIs have not exercised due precaution by reference to the list of defaulters circulated / published by RBI while investing in bonds, debentures, etc., of companies. Banks may, therefore, exercise due caution while taking any investment decision to subscribe to bonds, debentures, shares etc., and refer to the ‘Defaulters List’ to ensure that investments are not made in companies / entities who are defaulters to banks / FIs. Some of the companies may be undergoing adverse financial position turning their accounts to sub-standard category due to recession in their industry segment, like textiles. Despite restructuring facility provided under RBI guidelines, the banks have been reported to be reluctant to extend further finance, though considered warranted on merits of the case. Banks may not refuse proposals for such investments in companies whose director’s name(s) find place in the defaulter companies list circulated by RBI at periodical intervals and particularly in respect of those loan accounts, which have been restructured under extant RBI guidelines, provided the proposal is viable and satisfies all parameters for such credit extension.

v. Direct investment in shares, convertible bonds and debentures etc.

Banks are free to acquire shares, convertible debentures of corporates and units of equity-oriented mutual funds, subject to a ceiling of 5 per cent of the total outstanding domestic credit (excluding inter-bank lendings and advances outside India ) as on March 31 of the previous year. Within the overall ceiling of 5 per cent for total exposure to capital market, the total investment in shares, convertible bonds and debentures and units of equity-oriented mutual funds by a bank should not exceed 20 per cent of its net worth. While making investment in equity shares etc., whose prices are subject to volatility, the banks should keep in view the following guidelines :

1.3 General

1.3.1 Reconciliation of holdings of Govt. securities, etc.

Banks should furnish to the Reserve Bank the statement of the reconciliation of bank's investments (held in own Investment account, as also under PMS) as at the end of every accounting year duly certified by the bank's auditors. Further, the statement should reach Reserve Bank within one month from the close of the accounting year. The aforementioned requirement of reconciliation may be suitably included by banks in the letters of appointment which may be issued to the bank's external auditors, in future. The format for the statement and the instructions for compiling thereto are given in Annexure V.

1.3.2 Transactions in securities - Custodial functions

While exercising the custodial functions on behalf of their merchant banking subsidiaries, these functions should be subject to the same procedures and safeguards as would be applicable to other constituents. Accordingly, full particulars should be available with the subsidiaries of banks of the manner in which the transactions have been executed. Banks should also issue suitable instructions in this regard to the department/office undertaking the custodial functions on behalf of their subsidiaries.

1.3.3 Portfolio Management on behalf of clients

i. The general powers vested in banks to operate PMS and similar schemes have been withdrawn. No bank should, therefore, restart or introduce any new PMS or similar scheme in future without obtaining specific prior approval of the Reserve Bank.

ii. The following conditions are to be strictly observed by the banks operating PMS or similar scheme with the specific prior approval of RBI:

iii. PMS clients' accounts should be subjected by banks to a separate audit by external auditors as covered in paragraph 1.2.5 (i) (a).

iv. Banks should note that violation of RBI's instructions will be viewed seriously and will invite deterrent action against the banks which will include raising of reserve requirements, withdrawal of facility of refinance from the Reserve Bank and denial of access to money markets, apart from prohibiting the banks from undertaking PMS activity.

v. Further, the aforesaid instructions will apply, mutatis mutandis, to the subsidiaries of banks except where they are contrary to specific regulations of the Reserve Bank or the Securities and Exchange Board of India, governing their operations.

vi. Banks/ merchant banking subsidiaries of banks operating PMS or similar scheme with the specific prior approval of the RBI are also required to comply with the guidelines contained in the SEBI (Portfolio Managers) Rules and Regulations, 1993 and those issued from time to time.

1.3.4 Investment Portfolio of banks - transactions in Government Securities

In the light of fraudulent transactions in the guise of Government securities transactions in physical format by a few co-operative banks with the help of some broker entities, it has been decided to accelerate the measures for further reducing the scope of trading in physical forms. These measures are as under:

i. For banks which do not have SGL account with RBI, only one CSGL account can be opened.

ii. In case the CSGL accounts are opened with a scheduled commercial bank, the account holder has to open a designated funds account (for all CSGL related transactions) with the same bank.

iii. The entities maintaining the CSGL / designated funds accounts will be required to ensure availability of clear funds in the designated funds accounts for purchases and of sufficient securities in the CSGL account for sales before putting through the transactions.

iv. No transactions by the bank should be undertaken in physical form with any broker.

v. Banks should ensure that brokers approved for transacting in Government securities are registered with the debt market segment of NSE/BSE/OTCEI.

2. Classification

i. The entire investment portfolio of the banks (including SLR securities and non-SLR securities) should be classified under three categories viz. ‘Held to Maturity’, ‘Available for Sale’ and ‘Held for Trading’. However, in the balance sheet, the investments will continue to be disclosed as per the existing six classifications viz. a) Government securities, b) Other approved securities, c) Shares, d) Debentures & Bonds, e) Subsidiaries/ joint ventures and f) Others (CP, Mutual Fund Units, etc.).

ii. Banks should decide the category of the investment at the time of acquisition and the decision should be recorded on the investment proposals.

2.1 Held to Maturity

i. The securities acquired by the banks with the intention to hold them up to maturity will be classified under Held to Maturity.

ii. The investments included under 'Held to Maturity' should not exceed 25 per cent of the bank’s total investments. The banks may include, at their discretion, under 'Held to Maturity' category securities less than 25 per cent of total investment.

iii. The following investments will be classified under ‘Held to Maturity’ but will not be counted for the purpose of ceiling of 25% specified for this category:

The debenture/bond is issued as part of the proposal for project finance and the tenure of the debenture is for a period of three years and above
or

The debenture/bond is issued as part of the proposal for working capital finance and the tenure of the debenture/ bond is less than a period of one year

and

the bank has a significant stake i.e.10% or more in the issue

and

the issue is part of a private placement, i.e. the borrower has approached the bank/FI and not part of a public issue where the bank/FI has subscribed in response to an invitation.

The debentures/ bonds deemed to be in the nature of advance will be subject to the usual prudential norms applicable to advances.

iv. Profit on sale of investments in this category should be first taken to the Profit & Loss Account and thereafter be appropriated to the ‘Capital Reserve Account’. Loss on sale will be recognised in the Profit & Loss Account.

2.2 Available for Sale & Held for Trading

i. The securities acquired by the banks with the intention to trade by taking advantage of the short-term price/ interest rate movements will be classified under Held for Trading.

i. The securities which do not fall within the above two categories will be classified under Available for Sale

ii. The banks will have the freedom to decide on the extent of holdings under Available for Sale and Held for Trading categories. This will be decided by them after considering various aspects such as basis of intent, trading strategies, risk management capabilities, tax planning, manpower skills, capital position.

iii. The investments classified under Held for Trading category would be those from which the bank expects to make a gain by the movement in the interest rates/ market rates. These securities are to be sold within 90 days.

iv. Profit or loss on sale of investments in both the categories will be taken to the Profit & Loss Account.

2.3 Shifting among categories

i. Banks may shift investments to/from Held to Maturity category with the approval of the Board of Directors once a year. Such shifting will normally be allowed at the beginning of the accounting year. No further shifting to/ from this category will be allowed during the remaining part of that accounting year.

ii. Banks may shift investments from Available for Sale category to Held for Trading category with the approval of their Board of Directors/ ALCO/ Investment Committee. In case of exigencies, such shifting may be done with the approval of the Chief Executive of the bank/ Head of the ALCO, but should be ratified by the Board of Directors/ ALCO.

iii. Shifting of investments from Held for Trading category to Available for Sale category is generally not allowed. However, it will be permitted only under exceptional circumstances like not being able to sell the security within 90 days due to tight liquidity conditions, or extreme volatility, or market becoming unidirectional. Such transfer is permitted only with the approval of the Board of Directors/ ALCO/ Investment Committee.

iv. Transfer of scrips from one category to another, under all circumstances, should be done at the acquisition cost/ book value/ market value on the date of transfer, whichever is the least, and the depreciation, if any, on such transfer should be fully provided for.

3. Valuation

3.1 Held to Maturity

i. Investments classified under Held to Maturity category need not be marked to market and will be carried at acquisition cost unless it is more than the face value, in which case the premium should be amortised over the period remaining to maturity.

ii. Banks should recognise any diminution, other than temporary, in the value of their investments in subsidiaries/ joint ventures which are included under Held to Maturity category and provide therefor. Such diminution should be determined and provided for each investment individually.

3.2 Available for Sale

i) The individual scrips in the Available for Sale category will be marked to market at the quarterly or at more frequent intervals. While the net depreciation under each classification referred to in item 2(i) above should be recognised and fully provided for, the net appreciation under each classification referred to in item 2(i) above should be ignored. The book value of the individual securities would not undergo any change after the revaluation.

[Note: Securities under this category shall be valued scrip-wise and depreciation/ appreciation shall be aggregated for each classification referred to in item 2(i) above. Net depreciation, if any, shall be provided for. Net appreciation, if any, should be ignored. Net depreciation required to be provided for in any one classification should not be reduced on account of net appreciation in any other classification.]

ii) The provisions required to be created on account of depreciation in the Available for Sale category in any year should be debited to the Profit & Loss Account and an equivalent amount (net of tax benefit, if any, and net of consequent reduction in the transfer to Statutory Reserve) or the balance available in the Investment Fluctuation Reserve Account, whichever is less, shall be transferred from the Investment Fluctuation Reserve Account to the Profit & Loss Account. In the event provisions created on account of depreciation in the Available for Sale category are found to be in excess of the required amount in any year, the excess should be credited to the Profit & Loss Account and an equivalent amount (net of taxes, if any, and net of transfer to Statutory Reserves as applicable to such excess provision) should be appropriated to the Investment Fluctuation Reserve Account to be utilised to meet future depreciation requirement for investments in this category. The amounts debited to the Profit & Loss Account for provision and the amount credited to the Profit & Loss Account for reversal of excess provision should be debited and credited respectively under the head "Expenditure-Provisions & Contingencies". The amounts appropriated from the Profit & Loss Account and the amount transferred from the Investment Fluctuation Reserve to the Profit & Loss Account should be shown as ‘below the line’ items after determining the profit for the year.

3.3 Held for Trading

The individual scrips in the Held for Trading category will be marked to market at monthly or at more frequent intervals as in the case of those in the Available for Sale category. The book value of the individual securities in this category would not undergo any change after marking to market.

3.4 Investment Fluctuation Reserve

i. With a view to building up of adequate reserves to guard against any possible reversal of interest rate environment in future due to unexpected developments, banks are advised to build up Investment Fluctuation Reserve (IFR) of a minimum 5 per cent of the investment portfolio within a period of 5 years. IFR should be computed with reference to investments in two categories, viz., "Held for Trading" and "Available for Sale". It will not be necessary to include investment under "Held to Maturity" category for the purpose of computation of IFR. However, banks are free to build up a higher percentage of IFR up to 10 per cent of the portfolio depending on the size and composition of their portfolio, with the approval of their Board of Directors.

ii. Banks should transfer maximum amount of the gains realized on sale of investment in securities to the IFR.

iii. The IFR, consisting of realized gains from the sale of investments from the two categories, viz., "Held for Trading" and "Available for Sale", would be eligible for inclusion in Tier 2 capital as hitherto.

iv. Transfer to IFR shall be as an appropriation of net profit "below the line" after appropriation to statutory reserve.

3.5 General

3.5.1 The equity shares in the bank's portfolio should be marked to market preferably on a daily basis, but at least on a weekly basis.

3.5.2 In respect of securities included in any of the three categories where interest/ principal is in arrears, the banks should not reckon income on the securities and should also make appropriate provisions for the depreciation in the value of the investment. The banks should not set-off the depreciation requirement in respect of these non-performing securities against the appreciation in respect of other performing securities.

3.6 Market value

The ‘market value’ for the purpose of periodical valuation of investments included in the Available for Sale and the Held for Trading categories would be the market price of the scrip as available from the trades/ quotes on the stock exchanges, SGL account transactions, price list of RBI, prices declared by Primary Dealers Association of India (PDAI) jointly with the Fixed Income Money Market and Derivatives Association of India (FIMMDA) periodically. In respect of unquoted securities, the procedure as detailed below should be adopted.

3.7 Unquoted SLR securities

3.7.1 Central Government Securities

i) The Reserve Bank of India will not announce the YTM rates for unquoted Government securities, as hitherto, for the purpose of valuation of investments by banks. The banks should value the unquoted Central Government securities on the basis of the prices/ YTM rates put out by the PDAI/ FIMMDA at periodical intervals.

ii) The 6.00 per cent Capital Indexed Bonds may be valued at "cost" as defined in circular DBOD. NO.BC.8/12.02.001 / 97-98 dated January 22, 1998 and BC.18/12.02.001/2000-2001 dated August 16, 2000.

iii) Treasury Bills should be valued at carrying cost.

3.7.2 State Government Securities

State Government securities will be valued applying the YTM method by marking it up by 25 basis points above the yields of the Central Government Securities of equivalent maturity put out by PDAI/ FIMMDA periodically.

3.7.3 Other ‘approved’ Securities

Other approved securities will be valued applying the YTM method by marking it up by 25 basis points above the yields of the Central Government Securities of equivalent maturity put out by PDAI/ FIMMDA periodically.

3.8 Unquoted Non-SLR securities

3.8.1 Debentures/ Bonds

All debentures/ bonds other than debentures/ bonds which are in the nature of advance should be valued on the YTM basis. Such debentures/ bonds may be of different companies having different ratings. These will be valued with appropriate mark-up over the YTM rates for Central Government securities as put out by PDAI/ FIMMDA periodically. The mark-up will be graded according to the ratings assigned to the debentures/ bonds by the rating agencies subject to the following: -

Where the debenture/ bonds is quoted and there have been transactions within 15 days prior to the valuation date, the value adopted should not be higher than the rate at which the transaction is recorded on the stock exchange.

3.8.2 Preference Shares

The valuation of preference shares should be on YTM basis. The preference shares will be issued by companies with different ratings. These will be valued with appropriate mark-up over the YTM rates for Central Government securities put out by the PDAI/FIMMDA periodically. The mark-up will be graded according to the ratings assigned to the preference shares by the rating agencies subject to the following:

a. The YTM rate should not be lower than the coupon rate/ YTM for a GOI loan of equivalent maturity.

b. The rate used for the YTM for unrated preference shares should not be less than the rate applicable to rated preference shares of equivalent maturity. The mark-up for the unrated preference shares should appropriately reflect the credit risk borne by the bank.

c. Investments in preference shares as part of the project finance may be valued at par for a period of two years after commencement of production or five years after subscription whichever is earlier.

d. Where investment in preference shares is as part of rehabilitation, the YTM rate should not be lower than 1.5% above the coupon rate/ YTM for GOI loan of equivalent maturity.

e. Where preference dividends are in arrears, no credit should be taken for accrued dividends and the value determined on YTM should be discounted by at least 15% if arrears are for one year, and more if arrears are for more than one year. The depreciation/ provision requirement arrived at in the above manner in respect of non-performing shares where dividends are in arrears shall not be allowed to be set-off against appreciation on other performing preference shares.

f. The preference share should not be valued above its redemption value.

g. When a preference share has been traded on stock exchange within 15 days prior to the valuation date, the value should not be higher than the price at which the share was traded.

3.8.3 Equity Shares

Equity shares for which current quotations are not available or where the shares are not quoted on the stock exchanges, should be valued at break-up value (without considering ‘revaluation reserves’, if any) which is to be ascertained from the company’s latest balance sheet (which should not be more than one year prior to the date of valuation). In case the latest balance sheet is not available the shares are to be valued at Re.1 per company.

3.8.4 Mutual Funds Units

Investment in quoted Mutual Fund Units should be valued as per Stock Exchange quotations. Investment in non-quoted Mutual Fund Units is to be valued on the basis of the latest re-purchase price declared by the Mutual Fund in respect of each particular Scheme. In case of funds with a lock-in period, where repurchase price/ market quote is not available, Units could be valued at NAV. If NAV is not available, then these could be valued at cost, till the end of the lock-in period. Wherever the re-purchase price is not available the Units could be valued at the NAV of the respective scheme.

3.8.5 Commercial Paper

Commercial paper should be valued at the carrying cost.

3.8.6 Investments in RRBs

Investment in RRBs is to be valued at Carrying Cost (i.e. book value) on consistent basis.

3.9. Investment in debentures / bonds / security receipts / Pass-through certificates issued by the Securitisation Company (SC) / Reconstruction Company (RC).

3.9.1 Provisioing / valuation norms

When banks / FIs invest in the security receipts / pass-through certificates issued by SC / RC in respect of the financial assets sold by them to the SC / RC, the sale shall be recognised in books of the banks / FIs at the lower of:

the redemption value of the security receipts / pass-through certificates, and

the NBV of the financial asset.

The above investment should be carried in the books of the bank / FI at the price as determined above until its sale or realisation, and on such sale or realisation, the loss or gain must be dealt with as under:

(i) if the sale to SC /RC is at a price below the net book value (NBV) (ie. Book value less provisions held), the shortfall should be debited to the profit and loss account of that year.

(ii) If the sale is for a value higher than the NBV, the excess provision will not be reversed but will be utilised to meet the shortfall / loss on account of sale of other financial assets to SC / RC.

All instruments received by banks / FIs from SC / RC as sale consideration for financial assets sold to them and also other instruments issued by SC / RC in which banks / FIs invest will be in the nature of non-SLR securities. Accordingly, the valuation, classification and other norms applicable to investment in non-SLR instruments prescribed by RBI from time to time would be applicable to bank’s / FI’s investment in debentures / bonds / security receipts / PTCs issued by SC / RC. However, if any of the above instruments issued by SC / RC is limited to the actual realisation of the financial assets assigned to the instruments in the concerned scheme the bank / FI shall reckon the Net Asset Value (NAV), obtained from SC / RC from time to time, for valuation of such investments.

4. Uniform accounting for Repo / Reverse Repo transactions.

4.1 In order to ensure uniform accounting treatment for accounting repo / reverse repo transactions and to impart an element of transparency, uniform accounting principles, have been laid down for repo / reverse repo transactions undertaken by all the regulated entities. However, for the present, these norms would not apply to repo / reverse repo transactions under the Liquidity Adjustment Facility (LAF) with RBI.

4.2 The uniform accounting principles will be applicable from the financial year 2003-04. On implementation, market participants may undertake repos from any of the three categories of investments, viz., Held For Trading, Available For Sale and Held To Maturity.

4.3. The legal character of repo under the current law , viz. as outright purchase and outright sale transactions will be kept intact by ensuring that the securities sold under repo (the entity selling referred to as "seller") are excluded from the Investment Account of the seller of securities and the securities bought under reverse repo (the entity buying referred to as "buyer" ) are included in the Investment Account of the buyer of securities. Further, the buyer can reckon the approved securities acquired under reverse repo transaction for the purpose of Statutory Liquidity Ratio (SLR) during the period of the repo.

4. 4. At present repo transactions are permitted in Central Government securities including Treasury Bills and dated State Government securities. Since the buyer of the securities will not hold it till maturity, the securities purchased under reverse repo by banks should not be classified under Held to Maturity category. The first leg of the repo should be contracted at prevailing market rates. Further, the accrued interest received / paid in a repo / reverse repo transaction and the clean price (i.e. total cash consideration less accrued interest) should be accounted for separately and distinctly.

4. 5. The other accounting principles to be followed while accounting for repos / reverse repos will be as under:

4.5.1 Coupon

In case the interest payment date of the security offered under repo falls within the repo period, the coupons received by the buyer of the security should be passed on to the seller on the date of receipt as the cash consideration payable by the seller in the second leg does not include any intervening cash flows. While the buyer will book the coupon during the period of the repo , the seller will not accrue the coupon during the period of the repo. In the case of discounted instruments like Treasury Bills, since there is no coupon, the seller will continue to accrue the discount at the original discount rate during the period of the repo. The buyer will not therefore accrue the discount during the period of the repo.

4.5.2 Repo Interest Income / Expenditure

After the second leg of the repo / reverse repo transaction is over,

a. the difference in the clean price of the security between the first leg and the second leg should be reckoned as Repo Interest Income / Expenditure in the books of the buyer / seller respectively;

b. the difference between the accrued interest paid between the two legs of the transaction should be shown as Repo Interest Income/ Expenditure account, as the case may be; and

c. the balance outstanding in the Repo interest Income / Expenditure account should be transferred to the Profit and Loss account as an income or an expenditure.

As regards repo / reverse repo transactions outstanding on the balance sheet date, only the accrued income / expenditure till the balance sheet date should be taken to the Profit and Loss account. Any repo income / expenditure for the subsequent period in respect of the outstanding transactions should be reckoned for the next accounting period.

4.5.3 Marking to Market

The buyer will mark to market the securities acquired under reverse repo transactions as per the investment classification of the security. To illustrate, for banks, in case the securities acquired under reverse repo transactions have been classified under Available for Sale category, then the mark to market valuation for such securities should be done at least once a quarter. For entities who do not follow any investment classification norms, the valuation for securities acquired under reverse repo transactions may be in accordance with the valuation norms followed by them in respect of securities of similar nature.

In respect of the repo transactions outstanding as on the balance sheet date

a. the buyer will mark to market the securities on the balance sheet date and will account for the same as laid down in the extant valuation guidelines issued by the respective regulatory departments of RBI.

b. the seller will provide for the price difference in the Profit & Loss account and show this difference under "Other Assets" in the balance sheet if the sale price of the security offered under repo is lower than the the book value.

c. the seller will ignore the price difference for the purpose of Profit & Loss account but show the difference under "Other Liabilities" in in the Balance Sheet, if the sale price of the security offered under repo is higher than the book value; and

d. similarly the accrued interest paid / received in the repo / reverse repo transactions outstanding on balance sheet dates should be shown as "Other Assets" or "Other Liabilities" in the balance sheet.

4.5.4 Book value on re-purchase

The seller shall debit the repo account with the original book value (as existing in the books on the date of the first leg) on buying back the securities in the second leg.

4.5.5 Disclosure

The disclosures to be made by banks in the "Notes on Accounts’ to the Balance Sheet is given in Annexure. VI.

4.5.6 Accounting methodology

The accounting methodology to be followed are given below and illustrations are furnished in Annexure VII. While market participants, having different accounting systems, may use accounting heads different from those used in the illustration, there should not be any deviation from the accounting principles enunciated above. Further, to obviate disputes arising out of repo transactions, the participants may consider entering into bilateral Master Repo Agreement as per the documentation finalized by FIMMDA.

4.5.7 Recommended Accounting Methodology for Uniform Accounting of Repo / Reverse Repo transactions

a. The following accounts may be opened, viz. i) Repo Account, ii) Repo Price Adjustment Account, iii) Repo Interest Adjustment Account, iv) Repo Interest Expenditure Account, v) Repo Interest Income Account, vi) Reverse Repo Account, vii) Reverse Repo Price Adjustment Account, and viii) Reverse Repo Interest Adjustment Account.

b. The securities sold/ purchased under repo should be accounted for as an outright sale / purchase.

c. The securities should enter and exit the books at the same book value. For operational ease the weighted average cost method whereby the investment is carried in the books at their weighted average cost may be adopted.

Repo

d. In a repo transaction, the securities should be sold in the first leg at market related prices and re-purchased in the second leg at the derived price. The sale and repurchase should be accounted in the Repo Account.

e. The balances in the Repo Account should be netted from the bank's Investment Account for balance sheet purposes.

f. The difference between the market price and the book value in the first leg of the repo should be booked in Repo Price Adjustment Account. Similarly the difference between the derived price and the book value in the second leg of the repo should be booked in the Repo Price Adjustment Account.

Reverse repo

g. In a reverse repo transaction, the securities should be purchased in the first leg at prevailing market prices and sold in the second leg at the derived price. The purchase and sale should be accounted for in the Reverse Repo Account.

h. The balances in the Reverse Repo Account should be part of the Investment Account for balance sheet purposes and can be reckoned for SLR purposes if the securities acquired under reverse repo transactions are approved securities.

i. The security purchased in a reverse repo will enter the books at the market price (excluding broken period interest). The difference between the derived price and the book value in the second leg of the reverse repo should be booked in the Reverse Repo Price Adjustment Account.

Other aspects relating to Repo / Reverse Repo

j. In case the interest payment date of the security offered under repo falls within the repo period, the coupons received by the buyer of the security should be passed on to the seller on the date of receipt as the cash consideration payable by the seller in the second leg does not include any intervening cash flows.

k. The difference between the amounts booked in the first and second legs in the Repo / Reverse Repo Price Adjustment Account should be transferred to the Repo Interest Expenditure Account or Repo Interest Income Account, as the case may be.

l. The broken period interest accrued in the first and second legs will be booked in Repo Interest Adjustment Account or Reverse Repo Interest Adjustment Account, as the case may be. Consequently the difference between the amounts booked in this account in the first and second legs should be transferred to the Repo Interest Expenditure Account or Repo Interest Income Account, as the case may be.

m. At the end of the accounting period the, for outstanding repos , the balances in the Repo / Reverse Repo Price Adjustment Account and Repo / Reverse repo Interest Adjustment account should be reflected either under item VI - 'Others' under Schedule 11 - 'Other Assets' or under item IV 'Others (including Provisions)' under Schedule 5 - 'Other Liabilities and Provisions' in the Balance Sheet , as the case may be .

n. Since the debit balances in the Repo Price Adjustment Account at the end of the accounting period represent losses not provided for in respect of securities offered in outstanding repo transactions, it will be necessary to make a provision therefor in the Profit & Loss Account.

o. To reflect the accrual of interest in respect of the outstanding repo/ reverse repo transactions at the end of the accounting period, appropriate entries should be passed in the Profit and Loss account to reflect Repo Interest Income / Expenditure in the books of the buyer / seller respectively and the same should be debited / credited as an income / expenditure accrued but not due. Such entries passed should be reversed on the first working day of the next accounting period.

p. In respect of repos in interest bearing (coupon) instruments, the buyer would accrue interest during the period of repo. In respect of repos in discount instruments like Treasury Bills, the seller would accrue discount during the period of repo based on the original yield at the time of acquisition.

q. At the end of the accounting period the debit balances (excluding balances for repos which are still outstanding) in the Repo Interest Adjustment Account and Reverse Repo Interest Adjustment Account should be transferred to the Repo Interest Expenditure Account and the credit balances (excluding balances for repos which are still outstanding) in the Repo Interest Adjustment Account and Reverse Repo Interest Adjustment Account should be transferred to the Repo Interest Income Account.

r. Similarly, at the end of accounting period, the debit balances (excluding balances for repos which are still outstanding) in the Repo / Reverse Repo Price Adjustment Account should be transferred to the Repo Interest Expenditure Account and the credit balances (excluding balances for repos which are still outstanding) in the Repo / Reverse Repo Price Adjustment Account should be transferred to the Repo Interest Income Account.

5. General

5.1 Income recognition

i. Banks may book income on accrual basis on securities of corporate bodies/ public sector undertakings in respect of which the payment of interest and repayment of principal have been guaranteed by the Central Government or a State Government, provided interest is serviced regularly and as such is not in arrears.

ii. Banks may book income from dividend on shares of corporate bodies on accrual basis provided dividend on the shares has been declared by the corporate body in its Annual General Meeting and the owner's right to receive payment is established.

iii. Banks may book income from Government securities and bonds and debentures of corporate bodies on accrual basis, where interest rates on these instruments are pre-determined and provided interest is serviced regularly and is not in arrears.

iv. Banks should book income from units of mutual funds on cash basis.

5.2 Broken Period Interest

Banks should not capitalise the Broken Period Interest paid to seller as part of cost, but treat it as an item of expenditure under Profit and Loss Account in respect of investments in Government and other approved securities. It is to be noted that the above accounting treatment does not take into account taxation implications and hence the banks should comply with the requirements of Income Tax Authorities in the manner prescribed by them.

5.3 Dematerialised Holding

Banks have been advised to settle the transactions in securities as notified by Securities and Exchange Board of India (SEBI) only through depositories. Banks were also advised that after the commencement of mandatory trading in demat form, they would not be able to sell the shares of listed companies if they were held in physical form. In order to extend the demat form of holding to other instruments like bond, debentures and equities, it was decided that, with effect from October 31, 2001, banks, FIs, PDs and SDs will be permitted to make fresh investments and hold bonds and debentures, privately placed or otherwise, only in dematerialized form. Outstanding investments in scrip forms shall have to be converted into dematerialized form by June 30, 2002. As regards equity instruments, they will be permitted to be held by the above-mentioned institutions only in dematerialized form, from a date to be notified in consultation with SEBI.

ANNEXURE-I

Para 1.2 (i) (a)

Investment portfolio of banks-Transactions in securities-Conditions subject to which securities allotted in the auctions for primary issues can be sold

i. The contract for sale can be entered into only once by the allottee bank on the basis of an authenticated allotment advice issued by Reserve Bank of India. The selling bank should make suitable noting/stamping on the allotment advice indicating the sale contract number etc., the details of which should be intimated to the buying entity. The buying entity should not enter into a contract to further resell the securities until it actually holds the securities in its investment account.

ii. The contract for sale of allotted securities can be entered into by banks only with entities maintaining SGL Account with Reserve Bank of India for delivery and settlement on the next working day through the Delivery versus Payment(DVP) system.

iii. The face value of securities sold should not exceed the face value of securities indicated in the allotment advice.

iv. The sale deal should be entered into directly without the involvement of broker/s.

v. Separate record of such sale deals should be maintained containing details such as number and date of allotment advice, description and the face value of securities allotted, the purchase consideration, the number, date of delivery and face value of securities sold, sale consideration, the date and details of actual delivery i.e. SGL Form No., etc. This record should be made available to Reserve Bank of India for verification. Banks should immediately report any cases of failure to maintain such records.

vi. Such type of sale transactions of Government securities allotted in the auctions for primary issues on the same day and based on authenticated allotment advice should be subjected to concurrent audit and the relative audit report should be placed before the Executive Director or the Chairman and Managing Director of the Bank once every month. A copy thereof should also be sent to the Department of Banking Supervision, Reserve Bank of India, Central Office, Mumbai.

vii. Banks will be solely responsible for any failure of the contracts due to the securities not being credited to their SGL account on account of non-payment / bouncing of cheque etc.

ANNEXURE II

The list of non-bank entities for entering into ready forward contracts

1. The Discount and Finance House of India Ltd.
2. Gilt Securities Trading Corporation Ltd.
3. ICICI Securities and Finance Co. Ltd.
4. PNB Gilts Ltd.
5. SBI Gilts Ltd.
6. Securities Trading Corporation of India Ltd.
7. DSP Merrill Lynch Ltd.
8. Kotak Mahindra Capital Company (unlimited)
9. Birla Global Finance Company Ltd.
10. Hoare Govett (India) Securities Ltd.
11. Dil Vikas Finance Ltd.
12. SREI International Securities Pvt.Ltd.
13. Tower Capital and Securities Pvt.Ltd.
14. Canbank Mutual Fund
15. Export Credit Guarantee Corporation of India Ltd.
16. Export Import Bank of India
17. General Insurance Corporation of India
18. GIC Mutual Fund
19. Indian Bank Mutual Fund
20. Industrial Credit & Investment Corporation of India Ltd.
21. Industrial Development Bank of India
22. IDBI-Principal Mutual Fund
23. ITC Thread Needle Mutual Fund
24. Life Insurance Corporation of India
25. National Bank for Agriculture and Rural Development
26. National Housing Bank
27. New India Assurance Company Ltd.
28. Oriental Insurance Company Ltd.
29. Reliance Capital Mutual Fund
30. SBI Mutual Fund
31. Small Industries Development Bank of India
32. Unit Trust of India
33. LIC Mutual Fund
34. J.M. Mutual Fund
35. Birla Mutual Fund
36. Kothari Pioneer Mutual Fund
37. Jardine Fleming Mutual Fund
38. Kotak Mahindra Mutual Fund
39. JP Morgan Securities India Private Ltd.
40. ABN AMRO Securities (India) Pvt.Ltd.
41. Deutsche Securities (India) Pvt.Ltd.
42. Industrial Investment Bank of India Ltd.
43. Bank of India Mutual Fund
44. Sun F & C Mutual Fund
45. Prudential ICICI Mutual Fund
46. Housing Development Finance Corporation Ltd.
47. Stock Holding Corporation of India Ltd.
48. SICOM Limited
49. Dundee Mutual Fund
50. Templeton Mutual Fund
51. IDBI Capital Market Services Ltd.
52. Tata Trustee Company Limited A/c Tata Mutual Fund
53. DSP Merrill Lynch Mutual Fund
54. Deposit Insurance and Credit Guarantee Corporation
55. Industrial Finance Corporation of India
56. Corpbank Securities
57. Zurich India Mutual Fund
58. Alliance Capital Mutual Fund
59. II&FS Mutual Fund
60. BoB Mutual Fund
61. National Securities Clearing Corporation Ltd.
62. National Securities Depository Ltd

ANNEXURE-III

Para 1.2.6 (i) (g)

Investment port-folio of banks-Transactions in securities-Aggregate contract limit for individual brokers - clarifications

Sr. No	Issue Raised	Response
1.	The year should be calendar year or financial year?	Since banks close their accounts at the end of March, it may be more convenient to follow the financial year. However, the banks may follow calendar year or any other period of 12 months provided, it is consistently followed in future.
2.	Whether the limit is to be observed with reference to total transactions of the previous year as the total transactions of the current year would be known only at the end of the year?	The limit has to be observed with reference to the year under review. While operating the limit the bank should keep in view the expected turnover of the current year which may be based on turnover of the previous year and anticipated rise or fall in the volume of business in the current year.
3.	Whether to arrive at the total transactions of the year, transa-ctions entered into directly with counter parties i.e. where no bro-kers are involved would also be taken into account?	Not necessary. However, if there are any direct deals with the brokers as purchasers or sellers the same would have to be included in the total transactions to arrive at the limit of transactions to be done through an individual broker.
4.	Whether in case of ready forward deals both the legs of the deals i.e. purchase as well as sale will be included to arrive at the volume of total transactions?	Yes. This is, however, only theoretical as R/F transactions in Govt. securities are now prohibited except in Treasury Bills and specified Govt. Securities
5.	Whether central loan/state loan/ treasury bills etc. purchased through direct subscriptions/auction will be included in the volume of total transactions?	No, as brokers are not involved as intermidiaries.
6.	It is possible that even though bank considers that a particular broker has touched the prescribed limit of 5% he may come with an offer during the remaining period of the year which the bank may find it to be to its advantage as compared to offers received from the other brokers who have not yet done business upto the prescribed limit.	If the offer received is more advantageous the limit for the broker may be exceeded, the reasons therefor and approval of the competent authority/Board obtained post facto.
7.	Whether the transaction conducted on behalf of the clients would also be included in the total transactions of the year?	Yes. If they are conducted through the brokers.
8.	For a bank which rarely deals through brokers and consequently the volume of business is small maintaining the brokerwise limit of 5% may mean splitting the orders in small values amongst different brokers and there may also arise price differential.	There may be no need to split an order. If any deal causes the particular broker's share to exceed 5% limit, our circular provides the necessary flexibility inasmuch as Board's post facto approval can be obtained
9.	During the course of the year it may not be possible to reasonably predict what will be the total quantum of transactions through brokers as a result of which there could be deviation in complying with the norm of 5%.	The bank may get post facto approval from the Board after explaining to it the circumstances in which the limit was exceeded.
10.	Some of the small private sector banks have mentioned that where the volume of business particularly the transactions done through brokers is small the observance of 5% limit may be difficult. A suggestion has therefore been made that the limit may be required to be observed if the business done through a broker exceeds a cut-off point of, say Rs. 10 crore.	As already observed, the limit of 5% can be exceeded subject to reporting the transactions to the competent authority post facto. Hence, no change in our instructions are considered necessary.

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