Financial Markets Analysis
4.1
Introduction
Financial Market analysis focuses on the analysis of the different components of the
Markets. The analysis of the volumes in the different financial markets and its flow
are useful to evaluate the transmission of monetary policy through indirect channels
like interest rate channel, foreign exchange channel, asset price channel etc. RBI
recognizes the importance of non-quantity channels in the conduct of monetary policy
in India. 1Monetary policy impulses under the quantum channel impact directly on the
balance sheet of commercial banks by an increase in the quantum of credit expansion
by commercial banks affecting money supply, prices and output. On the other hand,
interest rate, exchange rate and asset price channels operate through changes in the
relative prices of a whole array of domestic and foreign assets and real assets. These
variations reflect changes in household wealth position, consumption and investment
and therefore, the overall activity in the economy.
Analyses of financial markets within the monetary policy framework helps in
understanding of different segments like the fixed income securities market and the
banking system in a no- arbitrage framework.
The areas of focus under the subject area Financial Market Analysis and the broad
analytical domain are:
a) Money Markets:
This area includes the daily call money market analyses, interest rate
analysis and estimating scenarios for the same.
b) Foreign Exchange Markets:
This sub-subject area encompasses the role of the RBI in promoting the
orderly development and maintenance of the Foreign Exchange Markets in
India. It covers data analysis relating to monitoring and development of
FX markets.
c) Equity Markets:
This area involves analysis of the Capital Markets covering the study of
various domestic and international indices and major stock performances.
d) Government Securities Market:
This encompasses development of the Government Securities market for
active debt management. This would involve study of primary and
secondary markets, type of instruments available in the market, types of
players in the market, the institutional and regulatory set up that exists
today and other allied subjects.
4.2
Scope and Objective
Money Markets & Interest Rate Analysis:
1
RBI Annual Report: 1999-2000
Money market analyses encompasses short-term money market instruments with
special emphasis on the inter-bank funds market, popularly known as the call money
market. Monetary management essentially aims at maintaining orderly conditions in
the money market where volatility in the call money market is seen as an indicator of
liquidity conditions prevailing in the banking system and its consequential impact on
other financial markets. The analysis is also done on the entire spectrum of the assets
and liabilities products of banks covering the interest rate scenario.
FX Markets:
The FX markets in India comprises Customers, Authorised Dealers and RBI. The
Authorised Dealers are authorised by RBI to carry on foreign exchange business.
A context diagram relating to information flow in the subject area ‘FX Markets’ is
given below:
Direct market operations/ Policy
formulation/Monitoring/ Data
Dissemination
FOREX
MARKET
RBI
Purchase & Sale of Foreign
Exchange for various Current
& Capital A/c transactions
FII's
Guidelines on matters of
mutual interest between the
FX Dealers
Companies
FEDAI
Authorised
Dealers
Government
Transactions
Public Sector
Undertakings
Individuals &
Other business
entities
Equity Markets:
The focus here is on volumes and rates prevalent in various equity markets that reflect
their asset value.
Government Security Markets:
RBI plays a dual role of acting as merchant banker to the Government and raising
funds at lowest cost, while it aims to achieve its monetary policy objectives of
containing the net RBI credit to Government.
This subject area deals with issues that are relevant to the operational aspect of the
Government Securities Market encompassing primary market, secondary market and
development issues. Issues relating to merchant banking activity are covered under
the subject area 'Government Finances'.
The scope of the subject area is centered around analysing on the following:



4.3
Institutional arrangement in the Gilts market through the operations of Primary
Dealers (PDs) and Satellite Dealers (SDs).
Introduction of innovative instruments such as fixed coupon/floating rate/capital
indexed bonds, T-Bills of 14/91/182/364 Day T-Bills, Zero Coupon bonds) etc.
Introduction of fund raising mechanism like yield based and price based auctions,
tap loans, pre-announced notified amounts, non-competitive bids outside notified
amounts, reissue of dated securities, announcing of calendar of T-Bills, DVP
system, underwriting by PDs and liquidity support.
Business Functions
Money Markets

Analysis of assets and liabilities structure and growth of the banking system. This
is carried out to assess the sources and uses of funds of the banking system and to
meet the key objective of the monetary policy i.e., to provide adequate credit to
the desired sectors of the economy.

Monitoring and analysing the activity of the inter-bank funds market and the
demand and supply of reserve money in the inter-bank call money market. The
volumes and rates in this market form the basis for understanding the rates in the
money market.

Monitoring interest rates across the entire spectrum of markets beginning with
money market instruments and analysing the interest rates on products comprising
both assets and liabilities in the balance sheet of the banking system.

Analysis and monitoring of financial markets comprising the money market,
equity market, foreign exchange market and Government Securities market.
FX Markets
The following are the major business functions in relation to this sub-subject area:
1) Development of FX markets
Developing an efficient and vibrant foreign exchange market is important for overall
development of financial markets. Analysis of the FX Markets across different
dimensions helps RBI in answering some important strategic questions in its pursuit
of the goal of orderly development of foreign exchange market in India.
2) Exchange Rate Management
The day-to-day movements in exchange rates are largely market determined. RBI
analyses the FX markets on a daily basis to ensure that orderly conditions prevail in
the markets. They also meet the temporary supply-demand gaps which may arise due
to uncertainties or other reasons, and curbing destabilizing and self-fulfilling
speculative activities. To this end, the RBI monitors closely the developments in the
financial markets at home and abroad and takes such measures, as it considers
necessary from time to time.
3) Reserve Management
The foreign exchange and gold reserves of the RBI are maintained in the form of
currency, deposits, gold bullion, as well as highly rated sovereign bonds, which are
managed by DEIO.
The analytical perspective for Exchange Rate Management (which includes Open
Market Operations) and Reserve Management is not detailed in this report as it was
informed during the user survey that the information involved is of classified nature.
Government Securities Markets:
The business functions relating to this area are the following:



Innovation in instruments
Market related Government Borrowings
Development of Secondary market and providing liquidity for GOI
Securities through the institutional mechanism.
A Context diagram on information flow for analysis on Government Securities
Market is given below:
EE
Banks, FIs
Investment in Government
Securities
SGL transactions
EE
PDO
Primary and Secondary market
activities
EE
Primary Dealers
EE; External entity in relation to IDMC
IDMC
4.4
Analytical Perspective
Money Markets
The broad analytical framework in which the above objective is addressed can be
classified into:


Analyses performed at a micro (bank level) and a macro (bank groups or
banking/financial system level)
Analyses performed to monitor various trends (e.g. Dependence of Banks on
Call, liquidity support by RBI etc.,).
The various types of analyses that may be considered are:







Trend analysis (e.g. trend in call borrowing, lending etc.,)
Comparative analysis (e.g. amongst bank groups)
Ratio analysis (e.g. credit-deposit ratio)
Incremental ratio analysis (e.g. incremental credit-deposit ratio)
Intra group/ sector analysis (e.g. public sector, private sector)
Cumulative analysis (e.g. cash reserve maintained so far, required reserve
for the rest of the fortnight etc.,)
Top “n” analysis (e.g. top 5 borrowers in the call market)
The focus of the analysis is on the movement of variables across different timeframes.
The time can be classified as
Financial Year
Calendar Year
Reporting week/fortnight
Daily




The above analyses help in drawing important conclusions and generalisations, while
on the look out for early warning signals that call for the initiation of regulatory and
supervisory action.
The information base for the various analyses consists of
primarily:



Statutory daily and fortnightly returns from the banks and financial
institutions
Information collected from financial markets
Information received and compiled by other departments of the RBI
FX Markets
The analysis relating to FX markets based on the data availability within the various
departments of RBI i.e. ECD, DEIO, DEAP and DESACS could help in drawing
important conclusions and provide early warning signals for which appropriate
actions could be undertaken. It also provides a basis on which the policies can be
formulated and/or guidelines issued. The information base for the above analysis
consists of various forms and returns (R-returns, Data on daily Merchant and Interbank FX transactions) submitted to RBI by the Authorised Dealers.
FX MARKETS
Research
support for
formulation of
policies
DEAP
Monitoring of
FX markets/
Policy
formulation
ECD
Reserve
Management
Exchange Rate
Management
DEIO
Data collation
relating to FX
transactions
DESACS
The various analyses which can be carried out like depth and volatility of market,
trading volumes, forward maturity mismatch, oversold and overbought positions etc.,
would help to develop an integrated repository of current and historical data which in
turn would provide information to end users for decision making.
Government Securities Markets
The broad analytical framework in which the above objectives are addressed can be
classified into analysis encompassing both the micro (entity level) and macro
(aggregate level) aspects. The various types of analysis that may be considered are:





Trend analysis (trend in volume of trading in secondary market)
Ratio analysis (share of Government securities to banks’ assets)
Inter group / sector analysis (i.e. comparing entities of banks, institutions and
NBFCs against each other),
Cumulative analysis (loans issues so far in the year)
Top ‘n’ analysis (top 5/10/20 holders in a particular security).
The above analysis helps in drawing important conclusions/generalizations on the
basis of which the policy prescriptions may be initiated and/or guidelines formulated.
4.5
Money Market Analysis
Introduction
Money market generally refers to the market for short- term funds wherein the period
generally ranges from one day to 14 days. The funds requirement of different
banks/market players are largely due to a temporary mismatch between the demand
and supply of money. This may be due to mismatches in their day- to- day
transactions, reserve requirements and for clearing purposes. The instruments
generally dealt in this market are - Call Money, T-bills, and CPs. Inter- bank Call
money, the most important instrument, is the focus area of analysis. Call money rates
and volumes reflect tight or easy liquidity conditions in the banking sector.
Analytical Issues
The analysis of liquidity in the banking system is seen from the perspective of
understanding the very short- term requirement of funds by the banking system. The
banks need to meet statutory reserve requirements (CRR) with the RBI on a
daily/fortnightly basis apart from maintaining liquidity to meet day-to-day clearing
requirements. Banks borrow and lend among themselves apart from looking for
liquidity support from the Central Bank. It is therefore important to analyze the
behavior and characteristics of the inter- bank funds market from two perspectives:
one set is to understand the banks’ compliance to the reserve maintained by them with
the RBI and the other is to analyze the interaction of banks in the Call money market
to fulfill these reserve requirements.
Analytical requirements relating to call money market are:





What are the volumes and rates prevailing in the call money market at the
aggregate level?
What is the peak rate and range of rates observed in the call market?
What is the interaction of primary dealers in the call money market in terms of
their rate and amount of borrowing and lending?
What is the market-wise participant interaction in the call market? Who are the
major borrowers and lenders in the market?
What is the movement of lending/borrowing rates with respect to benchmark
rates?
Variables to be tracked




Compliance data given by banks, FIs and PDs on a fortnightly basis covering
call market operations during the last fortnight
Daily report of call money operations by major players (covers 85% of the call
market activities)
Total turnover and range of rates in the call money market
Participant wise participation in the call market in the previous day.
Constraints
The financial market data are required at a high frequency and need to be stored in an
organised form. Currently, the market analysis is based on collecting information
from various sources manually and presenting them in an excel sheet, without any
historical data. Therefore, the analysis proposed above is possible in future, if the data
is stored from now onwards in an organised manner.
4.6
Foreign Exchange Markets
Introduction
International payments for trade and other purposes involve conversion of one
currency into another through the institutional channel viz. banks. The banks manage
the inventories of the various currencies and trade in them. These dealings contribute
to the emergence of the Foreign Exchange Markets. FX markets in India have
evolved over the years, from a highly insulated market due to stringent exchange
controls to the current stage in the liberalised era. RBI plays an important role in the
operation and development of FX markets, besides direct participation in the market.
Development of FX markets
Introduction
Orderly development and maintenance of FX markets is one of the important
objectives of RBI. The key parameters used in the analysis of the foreign exchange
markets are: FX turnover, liquidity of FX markets, and the composition of various
transactions in FX market.
Analytical Perspective
The main source of information for the analysis relating to FX Markets is data
received from Authorised Persons. For the purpose of analysis, the FX Markets
subject area can be sub divided into two perspectives - Regulatory focus and
Emerging Business Trends. Further, under these two perspectives various issues for
which data is not available are listed under the heading ‘Additional Issues’.
Regulatory Focus

What percentage of interbank transactions is backed by merchant transactions
Authorised Dealer wise, currency wise, and transaction type wise e.g. spot,
forward, swap over a period of time?

What is the trend in merchant forward contract booking? What is the total forward
contract cancellation amount? What is the Authorised Dealer wise forward
maturity mis-match in terms of value and time?

How much foreign exchange balances are held (fortnightly)- Authorised Dealer
wise, in various foreign currency accounts.

What is the trend in Nostro account balances maintained by the Banks?

What is the trend in the
daily Inter bank net position for spot/forward
transactions currency wise vis-à-vis limits approved?

How many new licenses were issued to Authorised Dealers during the year? What
has been the financial performance of the newly licensed Authorised Dealers
during the last 3 years?
Emerging Business Trends
The emerging trends in the FX markets also need attention in order to develop a
mature FX markets in India. The unique features of Indian forex markets, legal,
institutional and technological factors and developments related to macro economic
policies would govern the path of moving towards orderly development and
maintenance of foreign exchange markets in India. Some of the critical issues in this
area are:

What is the volume of FX business done by various bank groups? What is the
state wise distribution pattern of various bank groups doing the substantial FX
business e.g. co-operative banks, public sector banks, private sector banks etc?

What is the co-relation between the daily USD/INR rate and the domestic call
money rate?

What is the correlation between the currency wise annualised forward premia
and respective currency’s interest rate differential?

How are the inflows and outflows of foreign currency through various sources
affecting the FX markets vis-a- vis the following: –





Inflows and outflows by Non-Residents through the various foreign
currency deposit accounts
Monthly currency wise export turnover and average age of the outstanding
export bill
Commodity wise currency wise growth trend of imports and various
financing patterns of imports
Amount raised through ECB on monthly basis and projected future
outflows towards interest and principal
Trend of foreign investments over a period of time
Variables to be tracked:









Bank wise currency wise net open position (overbought/oversold) with
maturity profile
Daily Bank wise Merchant forward purchases/sales
Daily Inter bank forward purchases/sales
Daily Bank wise Swap volumes
Daily Bank wise Merchant spot purchases/sales
Daily Bank wise Merchant forward purchases/sales cancellations
Daily Inter bank spot purchases/sales
The data pertaining to Licensing of Authorised Dealers like Capital Structure,
Capital Adequacy Ratio, Risk Rating, Balance Sheet and P&L Statements etc
is available at DBOD for commercial banks and UBD for Co-operative Banks.
Month wise approvals and actual investments of foreign direct investments







Monthly inflows and outflows under FCNR (B) and other deposit schemes
Month wise, currency wise interest outflows, principal inflows & outflows
and maturity profile of ECB’s.
Country wise currency wise commodity wise total Exports
Authorised Dealer wise total overdue outstanding export bills, age wise breakup of bills outstanding.
Total value of imports - currency wise and commodity wise
Mode of payment for imports- Remittance in foreign currency, transfer of
rupees to non-resident bank accounts, suppliers credit etc.
Balances held in -EEFC account/ /-FCNR (B) account/Nostro account
Additional Issues:
The following issues were brought out during the User Survey, which are important
from the regulatory aspect / emerging trends, but currently the relevant data is not
available.

How are liquidity and turnover in Indian FX market growing as compared to other
FX markets worldwide?

How is the trading in derivatives developing in Indian FX markets by type of
derivative over a period of time?
How the trends in stock market and money market impact the FX market? What is
the co-relation between the domestic FX markets, Stock Market and the Money
Market?
4.7
Equity Markets
The analysis of equity markets can be done at two levels of varying details. They are:


Benchmark stocks selected based on trading volume or market capitalization; and
Indices like BSE Sensitive Index, S& P CNX Nifty Fifty, GDR index, etc.
The current user requirement for analysis of the stock market is satisfied with a time
series data on the prices of stocks and of various Indian (Sensex and Nifty Fifty) and
benchmark international indices (Hang Seng, Nasdaq, Dow Jones, FTSE, Nikkei etc.).
The time series data over a longer period can be used to understand co-movements in
these markets.
Analytical Issues



What are the returns earned in the equity markets in the country?
Are the returns widely spread across sectors or are they limited to certain sectors?
What is the comparative performance of Indian stock markets vis-à-vis
international markets/emerging markets? Is there any co-movement observed
between the Indian stock market and international markets?
Variables to be tracked (daily frequency data)






Returns based on broad market indices like SENSEX, S&P CNX 50
Returns in other major markets like DOW, NASDAQ, FTSE, NIKKEI, HANG
SENG etc.,
Returns on certain major stocks in the stock market
Returns on indices created to track movements of specific industry segments (e.g.
mindex)
Volume of trade in stock markets
Volume of trade in specific stocks
Constraints
A complete analysis of the financial markets involves a cross comparison of the rate
variables in intermediated markets like the banking system with other segments of the
financial system comprising of bond markets, equity markets etc. The constraint
faced is lack of enough time series data on these financial markets in soft form.
4.8
Government Securities Markets
Introduction
Active debt management requires a vibrant market for Government Securities.
Government Securities on the one hand provide a route for risk free investment by the
investors and on the other helps the Government to raise funds to finance its
investment plans.
The investors in Government Securities Market (Gilts Market) were mostly banks and
insurance companies. This resulted in poor liquidity in the securities market. Market
with adequate depth and liquidity is critical for using open market operations as an
effective tool of monetary policy. In view of the above, development of active Gilt,
market assumes great significance.
Analytical Issues
i)
Primary Market Issues








ii)
What is the trend in participation in the yield based and price based auctions?
Is the auction limited only to a few participants or widely participated?
What is the profile of the loans in terms of tenor and yields at present?
What is the holding pattern of securities by various categories (e.g. Banks,
Primary Dealers, MMMFs etc.) of investors?
What is the trend in incremental investment of banks into Government
Securities? Which are the banks that invest regularly in Gilts?
What is the extent of investment in Government securities vis-à-vis prescribed
SLR maintained by banks?
What is the average tenor of the loans floated till now? Is there a shift towards
longer duration loans in the recent past? What is the response to subscription
for securities of various tenors?
Given a comfortable liquidity condition, why a particular issue has devolved
on RBI? Is it because of differences in the yield expectations? Is the inflation
risk adequately compensated by the yields offered and is this the cause that
shortens maturity preferences?
Secondary Market





What is the current yield structure in the Government securities in the
secondary market?
What are the yield differences across short end/medium/long end of the yield
curve?
Whether OMO activity is limited to securities of shorter residual maturities
or is it spread across longer tenors also?
What is the spread between bids and ask quotes for Government Securities?
What is volume of trading in the G-Secs? Is the volume growing across all
kinds of securities? What is the trend in volume observed in short
end/medium/long end of the securities tenor? Why a particular tenor security


iii)
is not traded in the market? Is it because of its small size or concentrated
holding?
Is the secondary market trading limited to repo transactions entered into
among the banks or also includes direct sales and purchases?
Why is a particular tenor security not traded in the market? Is it because of its
small size or concentrated holding?
Institutional Issues







What is the trend in turnover of secondary market trading by PDs?
How is the participation level of PDs towards underwriting and auction
process?
Are the PDs fulfilling their bidding and underwriting commitments?
What is the average duration for which securities are held by the PDs?
What is the annual turnover of PDs as against their Net Owned Funds and
their compliance in the turnover of T-bills and dated securities?
What are the sources of funds for PDs? What is the level of outside sources of
funds (i.e. other than Net Owned Funds), which the PDs invest?
What is the extent of exposure of PDs in call money market?
Variables that are tracked to analyse the above issues are:
1. Central Loan Data (Security Type, Tenor, Coupon, Investor Type, Volumes,
Price, Yield, Subscription ratio, Time factor)
2. Holding profile from database of PDO and Securities Department in PAD
(Investor Group, Amount, Tenor, Security Type).
3. SGL transactions from PDO (Date, Counter parties, Counter party Group,
Security Type, Tenor, Volume, Price Yields)
4. Loan auction data (Bid Rates, Amount, Investors and Investor Category,
Spread against Secondary Market Rate)
5. Information received through PDR1 return from PDs (Sources and Uses of
Funds, Investment Types, Maturity and Amount, Trading Details, Duration of
Portfolio—on daily basis)
6. Information received through PDR2 return from PDs (Same as PDR I with
monthly frequency)
7. Sec42 (2) returns of banks
8. SLR return data of banks received by MPD
9. Call Money data (Volume, Rates, Time)
10. NSE quotes (presently not available)
11. Benchmark interest rates (it could be 5 year gilt rate or 8 year gilt rate or any
other rate reflecting a benchmark
4.9
Fixed Income Securities Market Analysis
The market for fixed income securities can be broadly classified as the market for risk
free fixed income securities (risk referred here is the risk of default) and the market
for corporate bonds and other fixed obligation securities. The market for Government
Securities can, for analytical purposes, is viewed in two ways: the market for fresh
securities issued by the Government and the market for securities in the secondary
market. The two markets need to be examined separately as the Primary market
represents a market for the incremental flow of funds to the Government Sector,
which is very different from the market in which these financial claims are traded,
where rates tend to differ for similar securities across these markets
The various rates from these two different markets, viz. the market for Government
obligations and for corporate obligations, can also be analysed to isolate the price for
the additional risk in corporate bonds (i.e. risk of default).
Analytical Issues




What is the cut-off yield in the auction market for different kinds of
Government Securities?
What are the volumes in the secondary market for debt securities?
At what rate is Government, paper being traded for different maturities?
What is the difference between the rates in the primary market and in the
secondary market for similar types of securities?
Variables to be tracked


SGL data on G-sec trading.
Auction data of Government Securities.
4.10
Interest Rate Analysis on Banks' Assets and Liabilities Products
The banking system would, in an arbitrage-free market, compete with financial
markets to attract the savings of households and the funding requirements of the
corporate/public sector. The dynamics of the intermediation is captured by
understanding the interest rate spreads earned by banks from their activities, on both
the asset side as well as the liability side. The various instruments in this
intermediated market and the spread earned by banks in various products may be
grouped as under
Liability Products
Deposits
Borrowings
CDs
Asset Products
Commercial papers
Government Securities
Loans and Advances
Other Investments
Analytical Issues











What is the spread earned by banks in the intermediated market?
What are the various instruments and what is the exposure of the individual bank
or bank groups in various asset products (domestic/foreign, Government/nonGovernment)?
What is the exposure of bank/bank groups’ investment in commercial paper?
What are the tenor wise-bank wise discount rate of CPs and the weighted average
discount rate for all banks together?
What is the outstanding amount of investment and discount rate of banks on bills
rediscounted?
What is the exposure of banks/bank groups to raising funds through Certificates of
Deposit?
What is the discount rate offered by banks on CDs? What is its tenor wise
discount range among the banks?
What is the PLR or PLR range charged by the banks/bank groups? What is the
volume of advances bank-wise over and above its PLR?
What is the quantum of advance at various spreads over and above PLR for
different kinds (cash or demand loans) of advances by banks?
Is there any move towards TLPLR from PLR by banks? How does the PLR
structure change once it is transformed into TLPLR? What is the industry trend in
shifting towards tenor-linked PLR?
What is the composition of bank liabilities in terms of domestic and foreign
deposits?
Variables to be tracked (fortnightly frequency data)



PLR of banks collected through fortnightly returns from banks
Data of Sec 42(2) returns from banks
Special Fortnightly returns data on Commercial Paper, Certificate of Deposits and
bills rediscounting.