2. Why should one invest in Government securities?
2.1 Holding of cash in excess of the day-to-day needs of a bank does not give any return to it. Investment in gold has attendant problems in regard to appraising its purity, valuation, safe custody, etc. Investing in Government securities has the following advantages:
- Besides providing a return in the form of coupons (interest), Government securities offer the maximum safety as they carry the Sovereign’s commitment for payment of interest and repayment of principal.
- They can be held in book entry, i.e., dematerialized/ scripless form, thus, obviating the need for safekeeping.
- Government securities are available in a wide range of maturities from 91 days to as long as 30 years to suit the duration of a bank’s liabilities.
- Government securities can be sold easily in the secondary market to meet cash requirements.
- Government securities can also be used as collateral to borrow funds in the repo market.
- The settlement system for trading in Government securities, which is based on Delivery versus Payment (DvP), is a very simple, safe and efficient system of settlement. The DvP mechanism ensures transfer of securities by the seller of securities simultaneously with transfer of funds from the buyer of the securities, thereby mitigating the settlement risk.
- Government security prices are readily available due to a liquid and active secondary market and a transparent price dissemination mechanism.
- Besides banks, insurance companies and other large investors, smaller investors like Co-operative banks, Regional Rural Banks, Provident Funds are also required to hold Government securities as indicated below:
A. Primary (Urban) Co-operative Banks
2.2 Section 24 of the Banking Regulation Act 1949, (as applicable to co-operative societies) provides that every primary (urban) cooperative bank shall maintain liquid assets, which at the close of business on any day, should not be less than 25 percent of its demand and time liabilities in India (in addition to the minimum cash reserve requirement). Such liquid assets shall be in the form of cash, gold or unencumbered Government and other approved securities. This is commonly referred to as the Statutory Liquidity Ratio (SLR) requirement.
2.3 All primary (urban) co-operative banks (UCBs) are presently required to invest a certain minimum level of their SLR holdings in the form of Government and other approved securities as indicated below:
- Scheduled UCBs have to hold 25 per cent of their SLR requirement in Government and other approved securities.
- Non-scheduled UCBs with Demand and Time Liabilities (DTL) more than Rs. 25 crore have to hold 15 per cent of their SLR requirement in Government and other approved securities.
- Non-scheduled UCBs with DTL less than Rs. 25 crore have to hold 10 per cent of their SLR requirements in Government and other approved securities.
B. Rural Co-operative Banks
2.4 As per Section 24 of the Banking Regulation Act 1949, the State Co-operative Banks (SCBs) and the District Central Co-operative Banks (DCCBs) are required to maintain in cash, gold or unencumbered approved securities, valued at a price not exceeding the current market price, an amount which shall not, at the close of business on any day, be less than 25 per cent of its demand and time liabilities as part of the SLR requirement. DCCBs are allowed to meet their SLR requirement by maintaining cash balances with their respective State Co-operative Bank.
C. Regional Rural Banks (RRBs)
2.5 Since April 2002, all the RRBs are required to maintain their entire Statutory Liquidity Ratio (SLR) holdings in Government and other approved securities. The current SLR requirement for the RRBs is 24 percent of their Demand and Time Liabilities (DTL).
2.6 Presently, RRBs have been exempted from the ‘mark to market’ norms in respect of their SLR-securities. Accordingly, RRBs have been given freedom to classify their entire investment portfolio of SLR-securities under ‘Held to Maturity’ and value them at book value.
D. Provident funds and other entities
2.7 The non-Government provident funds, superannuation funds and gratuity funds are required by the Central Government, effective from January 24, 2005, to invest 40 per cent of their incremental accretions in Central and State Government securities, and/or units of gilt funds regulated by the Securities and Exchange Board of India (SEBI) and any other negotiable security fully and unconditionally guaranteed by the Central/State Governments. The exposure of a trust to any individual gilt fund, however, should not exceed five per cent of its total portfolio at any point of time. The investment guidelines for non-government PFs have been recently revised in terms of which investments up to 55% of the investible funds are permitted in a basket of instruments consisting of Central Government securities, State Government securities and units of gilt funds, effective from April 2009.