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There has been a lot of discussion / panic in the markets with regards to ICICI bank.

Nobody really knows what’s going on, but everybody is worried (see this article, which was a result of the response I got from ICICI bank for this article). What we do know is that there were intial reports in January, and then in March we were told that ICICI bank had declared over $260mn in credit derivative losses, on a total exposure of $2.2bn. In mid September there were rumours floating around about ICICI bank going under. These were put to rest by assurance by Kamath, SEBI and the RBI. Then there were more rumours a couple of days ago, and it almost seemed like there was a bit of a run on the bank, with people in Hyderabad, amongst other places, lining up at ATMs to pull out their cash.

While my view is that there isn’t smoke without a fire, and even Bear Stearns denied initially that there wasn’t anything wrong. While I think that ICICI bank shareholders might see a further deterioration in share price, I don’t think that people holding accounts at the retail bank really have much to worry about.

ICICI bank’s business, like any conglomorate bank, can be broadly categorized into - the wholesale/ investment banking arm, which would bear the exposure to the credit derivative instruments, and the retail banking side, which takes deposits from individuals and small businesses. I couldn’t manage to get a hold of the corporate structure or of ICICI Bank, but these businesses should be structurally separate even if they are owned by the same holding company, ICICI Bank.

If this is the case, it would mean that while the shareholders are exposed to both businesses, the customers of the retail bank are relatively safer from the effects of the losses of the wholesale banking / investment banking arm.   

Also, as ICICI sets out above, it is mandatory for all Indian Scheduled Commercial Banks to retain 34% of the deposit base in the form of Government Securities (SLR) and cash with RBI (CRR).

Retail depositors are also protected to a limited extent (Rs. 100,000) by depositor insurance (check an article about depositor insurance here: www.rbi.org.in/Scripts/FAQView.aspx?Id=64).

I also believe that like the Fed could not let AIG, an institution that is far to large and far too embedded in the livelihoods of the American population, fail, similarly, the RBI would never let India’s largest private bank fail. 

So if I was an ICICI bank retail depositor. I wouldn’t go running to ATMs to pull my cash out, just yet.

Disclaimer: This blog or any other content on this blog should not be construed as financial or investment advice. All views presented here are solely the opinion of the author’s.

Disclosure: I don’t hold any positions in ICICI Bank. 

Manmohan Singh prepared a Working Paper for the International Monetary Fund in December 2007, in light of the curbs imposed by the Securities and Exchanges Board of India (SEBI). It clearly explains the history and origins of P-notes and suggested at the time what the impact of the curb may be.

Some history:

Since 1992, when FIIs were allowed to invest in Indian equity markets after the balance of payments crisis, an offshore market for PNs developed as a primary conduit for foreign investors to invest in India.

The origins of such flows stems from the bilateral tax treaty that India has had with Mauritius. The main provision of the 1983 treaty was that no resident of Mauritius would be taxed in India on capital gains arising from the sale of securities in India. The treaty therefore gave capital gains exemption for investments routed via Mauritius. Despite the uniform reduction in capital gains tax arbitrage that existed from the early 1990s through July 2004, it is interesting to note that there has been a rapid growth in the market for PNs in the last three to four years.

In the decade, short term capital gains have been as high as 40% and long term capital gains as high as 20%. However, since July 2004, the tax treatment on short term (security held for less than 1 year) capital gainshave been reduced to 10%, and there are no taxes Read the rest of this entry »