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How SBI gained from tax-free bonds
March, 09th 2016

Tax-free bonds have been a blessing for the salaried rich this year as well as the State Bank of India, the country's largest lender.

The banking behemoth has so far invested about Rs 4,000 crore in tax-free bonds, which would help it offset losses in other securities due to mark-to-market valuations as yields have dipped about 15-20 basis points in the secondary market, pushing prices up, market sources told ET.

SBI chairman Arundhati Bhattacharya confirmed the matter saying the bank has invested around Rs 4,000 crore. "It is a prudent investment where (mark-to-market) gains can offset losses incurred in other securities...(under the same bracket),"she told ET.

The move should help cushion its investment book for March quarter earnings.

"Tax-free bonds are a reasonable bet for investors," said Vaibhav Agrawal, head of research at Angel Broking. "In SBI's large balance sheet, this may not have significant impact on the bank's profits, but it will help cushion losses incurred in other corporate bonds."

SBI invested the largest sum in the National Highways Authority of India's public issue. It applied for Rs 4,260 crore of bonds and was allotted Rs 1,231 crore.

The lender has invested a total of about Rs 2,400 crore in bonds sold by companies including NHAI and Housing and Urban Development Corporation, while National Bank for Agriculture & Rural Development sold close to Rs 1,500 crore to SBI in one-to-one deals (private placement).

The bonds have been accounted under "available for sale" and "held for trading" - two categories of a bank's investment book where it is mandated to show mark-to-market profits or losses. While unrealised profits cannot be shown, they can offset losses in other similar securities under the same category.

Between March and December, SBI provided Rs 155 crore for investment depreciation compared with a write-back of Rs 506 crore (reversal of such provisions) a year earlier, according to a presentation on the bank's website.

"Banks, as investors, have an additional advantage as of now," A Purushothaman, general manager at SBI, said in an ET article a few months ago. "As per the Fimmda valuation guidelines, tax-free bonds can be valued for MTM (mark-to-market) purposes as per the traded data of similar bonds."

Tax-free bond yields dipped to 7.13-7.14% in the secondary market from 7.30-7.32% a month ago.

If no traded data is available, the bond can be valued by grossing up the tax benefit in the coupon. As such securities are mostly not traded, the valuation gain as of now is an attractive benefit for banks.

By grossing up the tax benefit, the coupon could be treated at 13.08% for a tax-free bond offering 8.63% post-tax rate with 13-year residual maturity. The valuation of the bond reckoning a coupon of 13.08% would be Rs 135.35 compared with a Rs 100 face value, according to experts.

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