InvestorQ : Why are banks relying on certificates of deposits to raise money?
Angel dcosta made post

Why are banks relying on certificates of deposits to raise money?

Juvina Maggie answered.
2 months ago

That is absolutely correct and in the last few weeks, the trend is quite apparent. Most private and PSU banks in India are raising funds aggressively via the issue of certificates of Deposits (CD). Now, these CDs are a short term funding instrument for banks. Their maturity will normally range from as low as 2 days to as high as 1 year. Being a money market instrument, you don’t have CDs beyond a year. But, why is there such a perceptible increase in the fund raising activity through the issuance of certificates of deposits by the banks?

One reason is the rising bond yields in line with the repo rates, which have already been hiked by the RBI by 140 bps from 4% to 5.4%. CDs offer short term funds at extremely competitive rates of as low as 6.4% to 6.74%, which is nearly 75 bps to 100 bps lower than the benchmark bond yields of 10 year maturity. In just the first 20 days of August, Indian banks have raised close to Rs30,000 crore through issue of CDs. Some of the PSU banks like PNB, BOB have all been very active in this CD space to raise funds.

From the issuing bank perspective, these CDs give them access to relatively low cost funds for a 1 year period. The other alternative is to pay more for deposits from customers, which can be quite expensive in the longer run. Due to measures like rate hikes, CRR hike and the VRRRs, the banking system liquidity surplus dropped below Rs1 trillion. This has also pushed banks more towards the CD route. However, the supply side along does not answer the full question since there is also robust demand for these CDs.

The demand for these CDs is coming from the debt and short term liquid funds, which have received a lot of money into their pool of late. They have been aggressively looking at short term instruments to boost their yields and CDs fit perfectly into that requirement. Due to the safety aspects, most of the fund managers are more than happy to park their surplus funds in bank CDs. This trend looks all set to continue for now.