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Informist, Wednesday, Mar. 12, 2025

 

By Siddharth Upasani

 

NEW DELHI – Late Monday, a statement by IndusInd Bank consisting of fewer than 150 words sent shockwaves through the industry, the impact of which has been seen on Tuesday. The private bank's shares slumped more than 25?ter it disclosed--finally--that an internal review of its derivatives portfolio revealed "some discrepancies" that could have an "adverse impact" of around 2.35% of the lender's net worth as at the end of Dec. 31. Or, in other words, a hit of about INR 15 billion.

 

The bank went on to add that an external agency was independently validating the findings of the internal review and any impact on the financials would be considered only after the agency submitted its final report. IndusInd Bank, though, said its profitability and capital levels were healthy enough to withstand a one-time hit.

 

The true extent of the problem, however, was revealed in the subsequent analyst call late Monday, when officials said the discrepancies involved internal trades on account of foreign currency borrowings and deposits that had few takers in the market. These trades, conducted in the 5-7 years preceding April 2024, were stunningly missed despite multiple layers of checks by both the bank itself as well as the Reserve Bank of India.

 

Even if one assumes that the rot at IndusInd Bank has been fully exposed, there are several troubling questions that must be answered. One, how can such lapses occur despite several audits at the bank and central bank level? Two, how is it the auditors did not even notice the discrepancies and provide requisite qualifiers? Three, how did even the RBI miss these problems, with IndusInd Bank telling analysts late Monday that the central bank's supervision exercise took place in October and the discrepancies in question were discovered post that.

 

The RBI's supervision exercises and audits, especially of the treasury operations, are known to be particularly painstaking, especially in recent years. The scope of audit points has been rather wide, ranging from exposure of derivative books to objections to using mobile phones in dealing rooms. However, the fiasco at IndusInd Bank raises questions about whether the central bank looks deeply enough and whether it has the financial expertise to match the private sector's ingenuity and greed for profit, no matter the cost or risk.

 

Case in point, the very fact that IndusInd Bank struck internal trades warranted extra scrutiny. While there is nothing illegal about such trades, they don't represent the most kosher way of running operations. The bank's management told analysts on Monday that internal trades were struck between the asset-liability management and trading desks only in cases where the trade had little liquidity in the secondary market, such as a 3-5-year yen deposit or a 10-year dollar loan. The trading desk then went on to hedge its position with an external trade.

 

Even if one takes the management's comments at face value, it begs the question why couldn't the asset-liability management desk simply execute the external trades with which the trading desk managed its exposure? Is there really an absolute dearth of liquidity in longer tenor MIFOR swaps that would have hedged the kind of liabilities cited by the bank? Or was it that the low cost or convenience of an internal trade trumped regular logic and practice? One would expect such questions to be raised as a part of the RBI's audit exercise. The fact that the unwinding of these trades will impact the bank's net interest income suggests the trades exaggerated the interest accrual in some form. These are precisely the sort of thing RBI audits are meant to flag.

 

To be sure, the only reason the discrepancies at IndusInd Bank have come to light is because these internal trades were being unwound. Were these trades to be unwound sometime later, the matter would have most likely gone unnoticed even longer.

 

The RBI has seemingly taken a dim view of the situation. On Friday, it approved the re-appointment of Sumant Kathpalia as managing director and chief executive officer of the bank for one year as opposed to the requested three years, presumably after it got the preliminary update on the discrepancies from IndusInd Bank. Monday, Kathpalia admitted the matter would have had a bearing on the decision to re-appoint him for only one year and the RBI might be "uncomfortable with the way my leadership skills of running the bank is". This follows the resignation of Gobind Jain as the bank's chief financial officer--someone who was aware of these dubious internal trades, although the bank's officials tried to separate his resignation from the findings of the internal review.

 

The bottomline is the mess at IndusInd Bank will rightly hit the bank where it hurts the most--its pockets. And while the lender will have to do plenty to not just make up for the losses but also to regain the trust of investors, the real test will be for the RBI, which must figure out where its supervision and inspection fell short and how to set things right--uncomfortable questions it has faced on multiple occasions in recent years, including the YES Bank debacle.  End

 

Edited by Vandana Hingorani

 

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