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Date: Jul 01, 2010
Master Circular – Operational Guidelines to Primary Dealers

RBI/2010-11/81
IDMD.PDRD. 01 /03.64.00 / 2010-11

July 1, 2010

All Primary Dealers in the Government Securities Market

Dear Sir

Master Circular – Operational Guidelines to Primary Dealers

The Reserve Bank of India has, from time to time, issued a number of guidelines/instructions/circulars to the Primary Dealers (PDs) in regard to their operations in the Government Securities Market and other activities. To enable the PDs to have all the current instructions at one place, a Master Circular incorporating the guidelines/instructions/circulars on the subject issued up to June 30, 2010 is enclosed. The additional guidelines applicable to banks undertaking PD business departmentally are incorporated under Section II of the Master Circular. The guidelines on Risk Management and Capital Adequacy for the stand alone PDs are being issued vide our Master Circular IDMD.PDRD.02/03.64.00/2010-11 dated July 1, 2010. The banks undertaking PD activities departmentally shall follow the extant guidelines applicable to the banks regarding their capital adequacy requirement and risk management.

Yours faithfully

(K.K.Vohra)
Chief General Manager

Encl: As above


Table of Contents

Sl.No.

Details

Section I : Regulations governing Primary Dealers

1

Primary Dealer System

2

Role of Primary Dealers in Primary Market

3

Primary Dealers operations - Sources and application of funds

4

Diversification of activities by stand-alone Primary Dealers

5

Investment Guidelines

6

Prudential systems/controls

7

Trading of Government Securities on Stock Exchanges

8

Business through brokers

9

Norms for Ready Forward transactions

10

Portfolio Management Services by PDs

11

Guidelines on interest rate derivatives

12

Guidelines on declaration of dividends

13

Guidelines on Corporate Governance

14

Prevention of Money Laundering Act, 2002

15

Violation/Circumvention of Instructions

16

Disclosure of Penal Actions

Section II : Additional Guidelines for banks undertaking PD business

1

Introduction

2

Procedure for Authorization of Primary Dealers

3

Applicability of Guidelines issued for PDs

4

Maintenance of books and accounts

5

Capital Adequacy and Risk Management

6

Supervision by RBI

Annexes

I

Format of Undertaking

II

Statements / Returns required to be submitted by PDs

II A

Statements / Returns required to be submitted by banks on their PD business

III

Illustration showing the underwriting scheme

IV

Illustration showing PDs commitment to T-Bill auctions

V

Format PDR–I Return

VI

Format PDR-II Return

VII

Format PDR-IV Return

VIII

Publication of Financial Results

IX

Interest Rate Risk of Rupee Derivatives

X

Reporting format for PDs declaring dividend

XI

List of circulars consolidated

Section I : Regulations governing Primary Dealers

1.  Primary Dealership System

1.1     Introduction

In 1995, the Reserve Bank of India (RBI) introduced the system of Primary Dealers (PDs) in the Government Securities (G-Sec) Market, which comprised independent entities undertaking PD activity. In order to broad base the Primary Dealership system, banks were permitted to undertake Primary Dealership business departmentally in 2006-07. Further, the standalone PDs were permitted to diversify into business activities, other than the core PD business, subject to certain conditions. As on June 30, 2010, there are eight standalone PDs and twelve banks authorized to undertake PD business departmentally.

1.2   The objectives of PD System

The objectives of the PD system are to:

  1. strengthen the infrastructure in the G-Sec market in order to make it vibrant, liquid and broad based;

  2. ensure development of underwriting and market making capabilities for G-Sec outside the RBI;

  3. improve secondary market trading system, which would contribute to price discovery, enhance liquidity and turnover and encourage voluntary holding of G-Sec amongst a wider investor base; and

  4. make PDs an effective conduit for open market operations (OMO).

1.3  Eligibility conditions

1.3.1    The following institutions are eligible to apply for Primary Dealership

  1. Subsidiary of scheduled commercial bank/s and all India financial institution/s dedicated predominantly to the securities business and in particular to the G-Sec market.

  2. Company incorporated under the Companies Act, 1956 and engaged predominantly in the securities business and in particular the G-Sec market.

  3. Subsidiaries/ joint ventures set up by entities incorporated abroad under the approval of Foreign Investment Promotion Board (FIPB).

  4. Banks which do not have a partly or wholly owned subsidiary undertaking PD business and fulfill the following criteria :

    1. Minimum net owned funds (NOF) of Rs.1,000 crore;
    2. Minimum CRAR of 9 per cent ; and
    3. Net NPAs of less than 3 per cent and a profit making record for the last three years.

1.3.2 Indian banks which are undertaking PD business through a partly or wholly owned subsidiary and wish to undertake PD business departmentally by merging / taking over PD business from their partly / wholly owned subsidiary may do so subject to fulfilling the criteria stipulated above.

1.3.3 Foreign banks operating in India who wish to undertake PD business departmentally by merging the PD business being undertaken by a group entity may do so subject to fulfillment of the criteria stipulated above.

1.3.4   A non-bank entity applying for permission to undertake PD business shall obtain Certificate of Registration (COR) as an NBFC under Section 45-IA of the RBI Act, 1934 from the Department of Non-Banking Supervision, RBI. 

1.3.5 A non-bank applicant shall have net owned funds (NOF) of a minimum of Rs. 150 crore. In the case of a PD intending to diversify into permissible activities, the minimum NOF shall be Rs.250 crore. The enhanced level of NOF requirement for PDs is effective from April 1, 2010.  NOF will be computed in terms of the explanatory note to Section 45-IA of Chapter III-B of the RBI Act, 1934.  In terms of the RBI Act, 1934, NOF is calculated as (a) the aggregate of the paid-up equity capital and free reserves as disclosed in the latest balance-sheet of the company after deducting there from– (i) accumulated balance of loss; (ii) deferred revenue expenditure; and (iii) other intangible assets; and (b) further reduced by the amounts representing– (1) investments of such company in shares of– (i) its subsidiaries; (ii) companies in the same group; (iii) all other non-banking financial companies; and (2) the book value of debentures, bonds, outstanding loans and advances (including hire-purchase and lease finance) made to, and deposits with,– (i) subsidiaries of such company; and (ii) companies in the same group, to the extent such amount exceeds ten per cent of (a) above.

1.3.6 PDs are not permitted to set up step-down subsidiaries.

1.4      Procedure for Authorisation of the PDs

1.4.1 For enlistment as a PD, an eligible institution should submit its application to the Chief General Manager, Internal Debt Management Department (IDMD), RBI. The RBI will consider the application and, if satisfied, would grant approval `in principle’.  The applicant will thereafter submit an undertaking in respect of the terms and conditions agreed to. Based on the application and undertaking, an authorisation letter will be issued by RBI.  Continuation as a PD would depend on its compliance with the terms and conditions of authorisation.

Note: The decision to enlist PDs will be taken by RBI based on its perception of market needs, suitability of the applicant and the likely value addition to the system.

1.5       Role and obligations of the PDs

PDs are expected to play an active role in the G-Sec market, both in its primary and secondary market segments. A PD will be required to have a standing arrangement with RBI based on the execution of an undertaking (Annex I) and the authorization letter issued by RBI each year. The major roles and obligations of PDs are as below:

  1. Support to Primary Market: PDs are required to support auctions for issue of Government dated securities and Treasury Bills as per the minimum norms for underwriting commitment, bidding commitment and success ratio as prescribed by RBI from time to time.

  2. Market making in G-Sec: PDs should offer two-way prices in G-Sec, through the Negotiated Dealing System-Order Matching (NDS-OM), over-the-counter(OTC) market and recognized Stock Exchanges in India and take principal positions in the secondary market for G-Sec.

  3. PDs should maintain adequate physical infrastructure and skilled manpower for efficient participation in primary issues, trading in the secondary market, and to advise and educate investors.

  4. PDs shall have an efficient internal control system for fair conduct of business, settlement of trades and maintenance of accounts.

  5. A PD shall provide access to RBI to all records, books, information and documents as and when required.

  6. A PD’s investment in G-Sec and Treasury Bills on a daily basis should be at least equal to its net call/notice/repo (including CBLO) borrowing plus net RBI borrowing (through LAF/ Intra-Day Liquidity/ Liquidity Support) plus the minimum prescribed NOF.

  7. A PD should annually achieve a minimum turnover ratio of 5 times for Government dated securities and 10 times for Treasury Bills of the average month-end stocks. The turnover ratio in respect of outright transactions should not be less than 3 times in Government dated securities and 6 times in Treasury Bills (Turnover ratio is computed as the ratio of total purchase and sales during the year in the secondary market to average month-end stocks).

  8. PDs should submit periodic returns as prescribed by RBI from time to time.

  9. Operations of the PDs are subject to prudential and regulatory guidelines issued by RBI from time to time.

1.6     Facilities from RBI

The RBI currently extends the following facilities to the PDs to enable them to fulfill their obligations effectively:

  1. access to Current Account facility with RBI;

  2. access to Subsidiary General Ledger (SGL) Account facility (for G-Sec) with RBI;

  3. permission to borrow and lend in the money market including call money market and to trade in all money market instruments;

  4. memberships of electronic dealing, trading and settlement systems (NDS platforms/INFINET/RTGS/CCIL);

  5. access to the Liquidity Adjustment Facility (LAF) of RBI;

  6. access to liquidity support from RBI under a scheme separately notified for standalone PDs; and

  7. favoured access to open market operations by RBI.

The facilities are, however, subject to review, depending upon the market conditions and requirements.

1.7     Regulation

  1. PDs are required to meet registration and such other requirements as stipulated by the Securities and Exchange Board of India (SEBI) including operations on the Stock Exchanges, if they undertake any activity regulated by SEBI.

  2. PDs are expected to join Primary Dealers Association of India (PDAI) and Fixed Income Money Market and Derivatives Association (FIMMDA) and abide by the code of conduct framed by them and such other actions as initiated by them in the interest of the securities markets.

  3. In respect of transactions in G-Sec, a PD should have a separate desk and maintain separate accounts in respect of its own position and customer transactions and subject them to external audit also.

  4. Any change in the shareholding pattern / capital structure of a PD needs prior approval of RBI. PDs should report any other material changes such as business profile, organization, etc. affecting the conditions of licensing as PD to RBI immediately.

  5. RBI reserves the right to cancel the Primary Dealership if, in its view, the concerned institution has failed to adhere to the terms of authorization or any other guideline of RBI as applicable.

  6. A PD should bring to the attention of RBI any major complaint against it or action initiated/taken against it by authorities such as the Stock Exchanges, SEBI, CBI, Enforcement Directorate, Income Tax, etc.

1.8     Supervision by RBI

1.8.1 Off-site supervision : PDs are required to submit prescribed periodic returns to RBI promptly. The current list of such returns, their periodicity, etc. is furnished in Annex II.

1.8.2 On-site inspection: RBI will have the right to inspect the books, records, documents and accounts of a PD.  PDs are required to make available all such documents, records, etc. to the RBI officers and render all necessary assistance as and when required. 

2.  Role of PDs in the Primary Market

Concomitant with the objectives of PD system, the PDs are expected to support the primary issues of dated securities of Central Government and State Government and Treasury Bills of Central Government, through underwriting/bidding commitments and success ratios. The related guidelines are as under:

2.1 Underwriting of Dated Government Securities

2.1.1 Dated securities of Central Government :

  1. The underwriting commitment on dated securities of Central Government will be divided into two parts - i) Minimum Underwriting Commitment (MUC) and ii) Additional Competitive Underwriting (ACU).

  2. The MUC of each PD will be computed to ensure that at least 50 percent of the notified amount of each issue is mandatorily underwritten equally by all the PDs. The share under MUC will be uniform for all PDs, irrespective of their capital or balance sheet size. The remaining portion of the notified amount will be underwritten through an ACU auction.

  3. RBI will announce the MUC of each PD.  In the ACU auction, each PD would be required to bid for an amount at least equal to its share of MUC. A PD cannot bid for more than 30 per cent of the notified amount in the ACU auction.

  4. The auction could be either uniform price-based or multiple price-based depending upon the market conditions and other relevant factors, which will be announced before the underwriting auction for each issue.

  5. Bids will be tendered by the PDs within the stipulated time, indicating both the amount of the underwriting commitment and underwriting commission rates.  A PD can submit multiple bids for underwriting. Depending upon the bids submitted for underwriting, RBI will decide the cut-off rate of commission and inform the PDs.

  6. Underwriting commission : All successful bidders in the ACU auction will be paid underwriting commission on the ACU segment as per the auction rules. Those PDs who succeed in the ACU for 4 per cent and above of the notified amount of the issue, will be paid commission on the MUC at the weighted average of all the accepted bids in the ACU. Others will get commission on the MUC at the weighted average rate of the three lowest bids in the ACU.

  7. In the GOI securities auction, a PD should bid for an amount not less than its total underwriting obligation. If two or more issues are floated on the same day, the minimum bid amount will be applied to each issue separately.

  8. Underwriting commission will be paid on the amount accepted for underwriting by the RBI, irrespective of the actual amount of devolvement, by credit to the current account of the respective PDs at the RBI, Fort, Mumbai, on the date of issue of security.

  9. In case of devolvement, PDs would be allowed to set-off the accepted bids in the auction against their underwriting commitment accepted by the RBI. Devolvement of securities, if any, on PDs will take place on pro-rata basis, depending upon the amount of underwriting obligation of each PD after setting off the successful bids in the auction.

  10. RBI reserves the right to accept any amount of underwriting up to 100 per cent of the notified amount or even reject all the bids tendered by PDs for underwriting, without assigning any reason.

  11. An illustration on underwriting procedure is given in Annex III.

2.1.2 Dated securities of State Governments

  1. On announcement of an auction of dated securities of the State Governments (SDLs) for which auction is held, RBI may invite PDs to collectively bid to underwrite up to 100 per cent of the notified amount of State Development Loans .

  2. A PD can bid to underwrite up to 30 per cent of the notified amount of the issue.  If two or more issues are floated on the same day, the limit of 30% is applied by taking the notified amounts separately.

  3. Bids will be tendered by PDs within the stipulated time, indicating both the amount of the underwriting commitments and underwriting commission rates.  A PD can submit multiple bids for underwriting.

  4. Depending upon the bids submitted for underwriting, the RBI will decide the cut-off rate of commission and the underwriting amount up to which bids would be accepted and inform the PDs.

  5. RBI reserves the right to accept any amount of underwriting up to 100 per cent of the notified amount or even reject all the bids tendered by PDs for underwriting, without assigning any reason.

  6. In case of devolvement, PDs would be allowed to set-off the accepted bids in the auction against their underwriting commitment accepted by the RBI. Devolvement of securities, if any, on PDs will take place on pro-rata basis, depending upon the amount of underwriting obligation of each PD after setting off the successful bids in the auction.

  7. Underwriting commission will be paid on the amount accepted for underwriting by the RBI, irrespective of the actual amount of devolvement, by credit to the current account of the respective PDs at the RBI, Fort, Mumbai, on the date of issue of security.

2.2   Bidding in Primary auctions of Treasury Bills

  1. Each PD will individually commit, at the beginning of the year, to submit bids for a fixed percentage of the notified amount of Treasury Bills in each auction.

  2. The minimum bidding commitment amount / percentage for each PD will be determined by the RBI, in consultation with the PD. While finalizing the bidding commitments, the RBI will take into account the net owned funds, the offer made by the PD, its track record and its past adherence to the prescribed success ratio. The amount/percentage of minimum bidding commitment so determined by the RBI will remain unchanged for the entire financial year or till the conclusion of agreement on bidding commitments for the next financial year, whichever is later. 

  3. In any auction of Treasury Bills, if a PD fails to submit the required minimum bid or submits a bid lower than its commitment, the RBI may take appropriate action against the PD.

  4. A PD would be required to achieve a minimum success ratio of 40 percent of bidding commitment for Treasury Bills auctions which will be monitored on a half yearly basis. A PD is required to achieve the minimum level of success ratio in each half year (April to September and October to March) separately. (For illustrations please refer to Annex IV).

2.2.1 Cash Management Bills (CMBs)

As the PDs are expected to support the primary issuances of Government of India, the PDs shall bid in each auction of Cash Management Bills (CMBs) as per the bidding commitment submitted by the PDs for T-Bills auctions.  Further, the success in CMBs auctions will be taken into account while calculating minimum success ratio of 40 per cent for T-Bills for each half year.  The CMBs transactions may be reported in PDR returns along with the T-Bills transactions.

2.3 ‘When-Issued’ transactions in Central Government Securities

PDs shall adhere to the guidelines issued by the RBI vide circular IDMD.No. 2130 /11.01.01 (D) /2006-07 dated November 16, 2006, as amended from time to time, for undertaking “When Issued” transactions.

2.4 Submission of non-competitive bids

PDs shall adhere to the guidelines issued vide circular RBI / 2008-09 / 479 - IDMD.No.5877 / 08.02.33 / 2008-09 dated May 22, 2009, as amended from time to time, in respect of submission of non-competitive bids in the auctions of the Government of India securities.

2.5 Sale of securities allotted in primary issues on the same day

PDs shall adhere to the guidelines issued vide circulars IDMC.PDRS.No. PDS.1 / 03.64.00 / 2000-01 dated October 6, 2000 and RBI / 2005 / 461 – IDMD.PDRS.4777 / 10.02.01 / 2004-05 dated May 11, 2005, for undertaking sale of securities allotted in primary issues on the same day.

2.6 Settlement of primary auctions

PDs shall adhere to the guidelines issued vide circular IDMD.PDRD.No. 1393 / 03.64.00 / 2008-09 dated September 19, 2008.  The primary auction settlement is independent from the secondary market settlements and therefore has to be funded separately.  Successful PDs shall provide sufficient funds in their current account with the RBI on the auction settlement days before 3:00 pm to meet their obligations against the subscriptions in the primary auctions failing which the shortage will be treated as an instance of ‘SGL bouncing’ and will be subjected to the applicable penal provisions.

2.7 Secondary Market Transactions - Short-selling

PDs shall adhere to the guidelines issued by the RBI vide circular RBI / 2006-07 / 243 IDMD.No./11.01.01 (B)/2006-07 dated January 31, 2007, on short sale in Central Government dated securities, as amended from time to time.

2.8  Separate Trading of Registered Interest and Principal of Securities (STRIPS) in G-Sec

PDs shall adhere to the guidelines issued by the RBI vide circular IDMD.DOD.No. 7 /11.01.09 /2009-10 dated March 25, 2010, on STRIPS in G-Sec, as amended from time to time.

3. PDs operations - Sources and application of funds

3.1 PDs are permitted to borrow funds from call/notice/term money market and repo (including CBLO) market. They are also eligible for liquidity support from RBI. 

3.2 PDs are allowed to borrow from call/notice market, on an average in a reporting fortnight, up to 225 percent of their net owned funds (NOF) as at the end March of the preceding financial year.

3.3 PDs may lend up to 25 percent of their NOF in call/notice money market, on an average in a ‘reporting fortnight’.

3.4 These limits on borrowing and lending are subject to periodic review by RBI.

3.5 Liquidity Support from RBI

In addition to access to the RBI's Liquidity Adjustment Facility, stand-alone PDs are also provided with liquidity support by the RBI against eligible G-Sec including State Development Loans (SDLs). The parameters based on which liquidity support will be allocated are given below :

  1. Of the total liquidity support, half of the amount will be divided equally among all the stand-alone PDs. The remaining half (i.e. 50%) will be divided in the ratio of 1:1 based on market performance in primary market and secondary market.  Performance in primary market will be computed on the basis of bids accepted in the Treasury-Bill auctions and G-Sec auctions in the proportionate weights of 1 and 3.  Similarly, the secondary market performance will be judged on the basis of outright turnover in T-Bills and dated G-Sec in the proportionate weights of 1 and 3.

  2. The PD-wise limit of liquidity support will be revised every half-year (April-September and October-March) based on the market performance of the PDs in the preceding six months.

  3.  The liquidity support to PDs will be made available at the ‘Repo rate’ announced by the RBI.

  4. The liquidity support availed by a PD will be repayable within a period of 90 days. If the liquidity support is repaid after 90 days, the penal rate of interest payable by PDs is Bank rate plus 5 percentage points for the period beyond 90 days.

3.6     Inter-Corporate Deposits

3.6.1 Inter-Corporate Deposits (ICDs) may be raised by PDs sparingly and should not be used as a continuous source of funds. After proper and due consideration of the risks involved, the Board of Directors of the PD should lay down the policy in this regard, which among others, should include the following general principles:

  1. While the ceiling fixed on ICD borrowings should in no case exceed 50% of the NOF as at the end of March of the preceding financial year, it is expected that actual dependence on ICDs would be much below this ceiling.

  2. ICDs accepted by PDs should be for a minimum period of one week.

  3. ICDs accepted from parent/promoter/group companies or any other related party should be on "arms length basis" and disclosed in financial statements as "related party transactions".

  4. Funds raised through ICDs are subject to ALM discipline.

3.6.2  PDs are prohibited from placing funds in ICD market.

3.7 FCNR (B) loans / External Commercial Borrowings

3.7.1 PDs may avail of FCNR(B) loans up to a maximum of 25% of the NOF as at the end of March of the preceding financial year and subject to the foreign exchange risk of such loans being hedged at all times at least to the extent of 50 per cent of the exposure.

3.7.2 PDs are not permitted to raise funds through External Commercial Borrowings.

3.8 Reporting Requirements

3.8.1 PDs are required to report, the sources and application of funds maintained on daily basis, to RBI on fortnightly intervals. The format of return (PDR-I) is enclosed in Annex V.

3.8.2 PDs are required to report the securities market turnover on monthly basis. The format of return (PDR-II) is enclosed in Annex VI.

3.8.3 PDs are required to submit a quarterly statement on capital adequacy in the prescribed format (PDR-III).

3.8.4 PDs are required to report select financial and Balance Sheet indicators on quarterly basis. The format of return (PDR-IV) is enclosed in Annex VII.

4. Diversification of activities by stand-alone PDs

4.1     Stand-alone PDs are permitted to diversify their activities, as considered appropriate, in addition to their existing business of G-Sec, subject to limits.

4.2     PDs may bifurcate their operations into core and non-core activities.

4.2.1 The following activities are permitted under core activities:

  1. Dealing and underwriting in G-Sec

  2. Dealing in Interest Rate Derivatives

  3. Providing broking services in G-Sec

  4. Dealing and underwriting in Corporate / PSU / FI bonds/ debentures

  5. Lending in Call/ Notice/ Term/ Repo/ CBLO market

  6. Investment in Commercial Papers

  7. Investment in Certificates of Deposit

  8. Investment in Security Receipts issued by Securitization Companies/ Reconstruction Companies, Asset Backed Securities (ABS), Mortgage Backed Securities (MBS)

  9. Investment in debt mutual funds where entire corpus is invested in debt securities

4.2.2  PDs are permitted to undertake the following activities under non-core activities:

4.2.2.1 Activities which are expected to consume capital such as:

  1. Investment / trading in equity and equity derivatives market

  2. Investment in units of equity oriented mutual funds

  3. Underwriting public issues of equity

4.2.2.2 Services, which do not consume capital or require insignificant capital outlay such as:

  1. Professional Clearing Services

  2. Portfolio Management Services

  3. Issue Management Services

  4. Merger & Acquisition Advisory Services

  5. Private Equity Management Services

  6. Project Appraisal Services

  7. Loan Syndication Services

  8. Debt restructuring services

  9. Consultancy Services

  10. Distribution of mutual fund units

  11. Distribution of insurance products

4.2.3  For distribution of insurance products, the PDs may comply with the guidelines contained in the circular DNBS(PD)CC.No.35/10.24/2003-04 dated February 10, 2004 issued by the Department of Non-Banking Supervision, as amended from time to time.

4.2.4 Specific approvals of other regulators, if needed, should be obtained for undertaking the activities detailed above.

4.2.5  PDs are not allowed to undertake broking in equity, trading / broking in commodities, gold and foreign exchange.

4.3 The investment in G-Sec should have predominance over the non-core activities in terms of investment pattern.  Stand-alone PDs are required to ensure predominance by maintaining at least 50 per cent of their total financial investments (both long term and short term) in G-Sec at any point of time. Investment in G-Sec will include the PD’s Own Stock, Stock with RBI under Liquidity Support / Intra-day Liquidity (IDL)/ Liquidity Adjustment Facility (LAF), Stock with market for repo borrowings and G-Sec pledged with the Clearing Corporation of India Ltd (CCIL).

4.4     The exposure to non-core activities shall be subject to the guidelines on regulatory and prudential norms for diversification of activities by stand-alone PDs, which are as under :

4.4.1  The minimum NOF requirement for a PD, proposing to undertake non-core activities, as detailed in para 4.2.2, should be Rs.250 crore as against Rs.150 crore for a PD, which does not diversify into these activities.

4.4.2 The exposure to non-core activities, as defined in paragraph 4.2.2 above, shall be subject to risk capital allocation as prescribed below.

4.4.2.1. PDs may calculate the capital charge for market risk on the stock positions / underlying stock positions/ units of equity oriented mutual funds using Internal Models (VaR based) based on the guidelines prescribed vide RBI Master circular No. IDMD.PDRD. 2/03.64.00/2010-11 dated July 1, 2010 on Capital Adequacy and Risk Management, as updated from time to time. PDs may continue to provide for credit risk arising out of equity, equity derivatives and equity oriented mutual funds as prescribed in the circular mentioned above.

4.4.2.2 The guidelines for both credit risk and market risk in respect of Commercial Paper, Corporate / PSU / FI bonds / Underwriting are contained in the RBI Master circular IDMD.PDRD.No. 2 /03.64.00/2010-11 dated July 1, 2010, as updated from time to time.                     
       
4.4.2.3 The capital charge for market risk (VaR calculated at 99 per cent confidence interval, 15-day holding period, with multiplier of 3.3) for the activities defined in para 4.2.2.1 above should not be more than 20 per cent of the NOF as per the last audited balance sheet.

4.4.2.4    PDs choosing to diversify into non-core business segments should define internally the scope of diversification, organization structure and reporting levels for those segments. PDs should clearly lay down exposure and risk limits for those segments in the investment policy with the approval of their Board.

5. Investment Guidelines

5.1 Investment policy - PDs should frame and implement investment and operational policy guidelines on securities transactions which should be approved by their Boards.  The guidelines should contain the broad objectives to be followed while undertaking transactions in securities on their own account and on behalf of clients, clearly define the authority to put through deals, and lay down procedure to be followed while putting through deals, various prudential exposure limits, policy regarding dealings through brokers, systems for management of various risks, guidelines for valuation of the portfolio and the reporting systems etc. Operational procedures and controls in relation to the day-to-day business operations should also be worked out and put in place to ensure that operations in securities are conducted in accordance with sound and acceptable business practices. While laying down these guidelines, the PDs should strictly adhere to RBI’s instructions, issued from time to time. The effectiveness of the policy and operational guidelines should be periodically evaluated.

5.2     PDs should necessarily hold their investments in G-Sec portfolio in SGL with RBI. They may also have a dematerialised account with depositories (NSDL/CDSL).  All purchase/sale transactions in G-Sec by PDs should be compulsorily through SGL/CSGL/Demat accounts.

5.3     PDs should hold all other investments such as commercial papers, bonds and debentures, privately placed or otherwise, and equity instruments, only in dematerialised form.

5.4     All problem exposures, which are not backed by any security or backed by security of doubtful value, should be fully provided for.  Where a PD has filed suit against another party for recovery, such exposures should be evaluated and provisions made to the satisfaction of auditors. Any claim against the PD should also be taken note of and provisions made to the satisfaction of auditors.

5.5     The profit and loss account should reflect the problem exposures if any, and also the effect of valuation of portfolio, as per the instructions issued by the RBI, from time to time. The report of the statutory auditors should contain a certification to this effect.

5.6     PDs should formulate, within the above parameters, their own internal guidelines on securities transactions in both primary and secondary markets, with the approval of their Board of Directors.

5.7 HTM Portfolio

5.7.1  Stand-alone PDs are allowed to categorize a portion of their Government Security portfolio in the HTM category, subject to the following conditions :

  1. The transfer of securities (both Central Government and State G-Sec) to/from HTM shall be done as per the policy formulated by the Board.

  2. Such transfers should be done with the approval of the Board, at the acquisition cost/ book value/ market value on the date of transfer, whichever is the least, and the depreciation, if any, on such transfer shall be fully provided for. PDs are allowed to shift investments to/from HTM portfolio with the approval of the MD of the PD/Head of ALCO, only in case of exigencies. However, it should be ratified by the Board of the company.

  3. Only securities acquired by the PD under primary auction will be eligible for classification under HTM.

  4. The quantum of securities that can be classified as HTM shall be restricted up to 100% of the audited Net Owned Funds (NoF) of the PD as at the end March of the preceding financial year. The NOF will be computed in terms of the explanatory note to section 45-IA of chapter III-B of the RBI Act, 1934. All other conditions specified in the circulars referred to above will continue to apply.

  5. Transfers to/from HTM shall be permitted only once in a quarter.

  6. The profit on sale of securities, if any, from the HTM category shall first be taken to the P & L Account and thereafter be appropriated to the “Reserve Account”; loss on sale shall be recognized in the P & L Account.

  7. Investments classified under HTM will be carried at acquisition cost, unless it is more than the face value, in which case the premium should be amortized over the period remaining to maturity. The book value of the security should continue to be reduced to the extent of the amount amortized during the relevant accounting period.

  8. The concurrent auditors should specifically verify compliance with these instructions.

  9. The facility shall be available until further advice.

5.7.2  Banks undertaking PD activities departmentally may continue to follow the extant guidelines applicable to the banks in regard to the classification and valuation of the investment portfolio issued by our Department of Banking Operations and Development.

5.8     Guidelines on investments in non-Government securities

5.8.1 These guidelines cover PD’s investments in non-G-Sec (including capital gains bonds, bonds eligible for priority sector status, bonds issued by Central or State public sector undertakings with or without Government guarantees and bonds issued by banks and financial companies) generally issued by corporates, banks, FIs and State and Central Government sponsored institutions, Special Purpose Vehicles (SPVs), etc. These guidelines will, however, not be applicable to (i) units of equity oriented mutual fund schemes where any part of the corpus can be invested in equity, (ii) venture capital funds, (iii) commercial paper, (iv) certificate of deposit, and (v) investments in equity shares. The guidelines will apply to investments both in the primary market and the secondary market.

5.8.2  PDs should not invest in non-G-Sec of original maturity of less than one year, other than Commercial Paper and Certificates of Deposits, which are covered under RBI guidelines. 

5.8.3  PDs should undertake usual due diligence in respect of investments in non-Government securities.

5.8.4  PDs must not invest in unrated non-G-Sec.

5.8.5  PDs will abide by the requirements stipulated by the SEBI in respect of corporate debt securities. Accordingly, while making fresh investments in non-Government debt securities, PDs should ensure that such investments are made only in listed debt securities, except to the extent indicated in paragraph 5.7.6 below.

5.8.6  PD's investment in unlisted non-G-Sec should not exceed 10% of the size of their non-G-Sec portfolio on an on-going basis. The ceiling of 10% will be inclusive of investment in Security Receipts issued by Securitization Companies/Reconstruction Companies and also the investment in Asset Backed Securities (ABS) and Mortgage Backed Securities (MBS). The unlisted non-Government debt securities in which PDs may invest up to the limits specified above, should comply with the disclosure requirements as prescribed by the SEBI for listed companies.

5.8.7 PDs are required to report their secondary market transactions in corporate bonds done in the OTC market on FIMMDA's reporting platform as indicated vide circular IDMD.530/03.64.00/2007-08 dated July 31, 2007. Further, PDs shall adhere to the guidelines prescribed vide circular IDMD No.1764 /11.08.38/2009-10 dated October 16, 2009 as regards to clearing and settlement of OTC trades in corporate bonds.

5.8.8 PDs should ensure that their investment policies duly approved by their Board are formulated after taking into account all the relevant issues specified in these guidelines on investment in non-G-Sec.  PDs should put in place proper risk management systems for capturing and analysing the risk in respect of non-G-Sec before making investments and taking remedial measures in time. PDs should also put in place appropriate systems to ensure that investment in privately placed instruments is made in accordance with the systems and procedures prescribed under respective PD’s investment policy.

5.8.9 Boards of the PDs should review the following aspects of investment in non-G-Sec at least at quarterly intervals:

  1. Total business (investment and divestment) during the reporting period.

  2. Compliance with the prudential limits prescribed by the Board for investment in non-G-Sec.

  3. Compliance with the prudential guidelines on non-G-Sec prescribed above.

  4. Rating migration of the issuers/ issues held in the PD’s books.

5.8.10 In order to help creation of a central database on private placement of debt, a copy of all offer documents should be filed with the Credit Information Bureau (India) Ltd. (CIBIL) by the PDs.  Further, any default relating to interest/ installment in respect of any privately placed debt should also be reported to CIBIL by the investing PDs along with a copy of the offer document. 

5.8.11 As per the SEBI guidelines, all trades with the exception of the spot transactions, in a listed debt security, shall be executed only on the trading platform of a stock exchange.  In addition to complying with these SEBI guidelines, (as and when applicable) PDs should ensure that all spot transactions in listed and unlisted debt securities are reported on the NDS and settled through the CCIL.

6. Prudential systems/controls

6.1     Internal Control System in respect of securities transactions

  1. PDs should have an Audit Committee of the Board (ACB) which should meet at least at quarterly intervals. The ACB should peruse the findings of the various audits. ACB should ensure efficacy and adequacy of the audit function.

  2. All security transactions (including transactions on account of clients) should be subjected to concurrent audit by internal/external auditors to the extent of 100% and the results of the audit should be placed before the CEO/CMD of the PD once every month. The compliance should be monitored on ongoing basis and reported directly to the top management. The concurrent audit should also cover the business done through brokers and include the findings in their report.

  3. The scope of concurrent audit should include monitoring of broker wise limits, prudential limits laid down by RBI, accuracy and timely submission of all regulatory returns, reconciliation of SGL/ CSGL balances with PDO statements, reconciliation of current account balance with DAD statements, settlements through CCIL, stipulations with respect to short sale deals, when-issued transactions, constituent deals, money market deals, adherence to accounting standards, verification of deal slips, reasons for cancellation of deals, if any, transactions with related parties on "arms length basis" etc.

  4. PDs should have a system of internal audit focused on monitoring the efficacy and adequacy of internal control systems.

  5. All the transactions put through by the PD either on outright basis or ready forward basis should be reflected on the same day in its books and records i.e. preparation of deal slip, contract note, confirmation of the counter party, recording of the transaction in the purchase/sale registers, etc.

  6. With the approval of their Board, PDs should place appropriate exposure limits / dealing limits, for each of their counter- parties which cover all dealings with such counter parties including money market, repos and outright securities transactions. These limits should be reviewed periodically on the basis of financial statements, market reports, ratings, etc. and exposures taken only on a fully collateralized basis where there is slippage in the rating/assessment of any counterparty. 

  7. With the approval of their Boards, PDs should put in place reasonable leverage ratio for their operations, which should take into account all outside borrowings as a multiplier of their net owned funds.

  8. There should be a clear functional separation of (i) trading (front office) (ii) risk management (mid office), and (iii) settlement, accounting and reconciliation (back office).  Similarly, there should be a separation of transactions relating to own account and constituents’ accounts. 

  9. For every transaction entered into, the trading desk should generate a deal slip which should contain data relating to nature of the deal, name of the counter-party, whether it is a direct deal or through a broker, and if through a broker, name of the broker, details of security, amount, price, contract date and time and settlement date.  The deal slips should be serially numbered and controlled separately to ensure that each deal slip has been properly accounted for.  Once the deal is concluded, the deal slip should be immediately passed on to the back office for recording and processing.  For each deal, there must be a system of issue of confirmation to the counter-party.In view of the reporting and confirmation of OTC trades on Negotiated Dealing System (NDS) and guaranteed settlement through Clearing Corporation of India Limited (CCIL), the requirement to exchange written confirmation for OTC trades in G-Sec has been dispensed with. With respect to transactions matched on the NDS-OM module, the need for counterparty confirmation of deals matched on NDS-OM does not arise.

  10. Once a deal has been concluded, there should not be any substitution of the counter-party by the broker. Similarly, the security sold/purchased in a deal should not be substituted by another security under any circumstances.

  11. On the basis of vouchers passed by the back office (which should be done after verification of actual contract notes received from the broker/counter-party and confirmation of the deal by the counter party), the books of account should be independently prepared.

  12. PDs should periodically review securities transactions and report to the top management, the details of transactions in securities, details of funds/securities delivery failures, even in cases where shortages have been met by CCIL.

6.2     Purchase/Sale of securities through SGL transfer forms

All PDs should report / conclude their transactions on NDS / NDS(OM) and clear/settle them through CCIL as central counter-party. In such cases where exceptions have been permitted to tender physical SGL transfer forms, the following guidelines should be followed:

  1. Records of all SGL transfer forms issued/received should be maintained and a system for verification of the authenticity of the SGL transfer forms received from the counter-party and confirmation of authorized signatories should be put in place.

  2. Under no circumstances, a SGL transfer form issued by a PD in favour of counterparty should bounce for want of sufficient balance in the SGL/Current Account. Any instance of return of SGL form from the Public Debt Office (PDO) of the RBI for want of sufficient balance in the account should be immediately brought to the notice of the PD’s top management and reported to RBI with the details of transactions.

  3. SGL Transfer forms received by purchasing PDs should be deposited in their SGL Accounts immediately. No sale should be effected by way of return of SGL form held by the PD.

  4. SGL transfer form should be in a standard format prescribed by the RBI and printed on semi-security paper of uniform size. They should be serially numbered and there should be a control system in place to account for each SGL form.

6.3    Bank Receipt or similar receipt should not be issued or accepted by the PDs under any circumstances in respect of transactions in G-Sec.

6.4      Accounting Standards for securities transactions

  1. PDs should adopt the practice of valuing all securities in their trading portfolio on mark to market basis, at appropriate intervals.

  2. Costs such as brokerage fees, commission or taxes incurred at the time of acquisition of securities, are of revenue/deferred nature. The broken period interest received/paid also gets adjusted at the time of coupon payment.  PDs can adopt either the IAS or GAAP accounting standards, but has to ensure that the method should be true and fair and should not result in overstating the profits or assets value and should be followed consistently and be generally acceptable especially to the tax authorities.

  3. Broken period interest paid to seller as part of cost on acquisition of Government and other securities should not be capitalized but treated as an item of expenditure under Profit and Loss Account. The PDs may maintain separate adjustment accounts for the broken period interest.

  4. The valuation of the securities portfolio should be independent of the dealing and operations functions and should be done by obtaining the prices declared by FIMMDA periodically.

  5. PDs should publish their audited annual results in leading financial dailies and on their website in the format prescribed (Annex VIII). The following minimum information should also be included by way of notes to the Balance Sheet: -

    1. Net borrowings in call (average and peak during the period),

    2. Basis of valuation,

    3. Leverage Ratio (average and peak),

    4. CRAR (quarterly figures), and

    5. Details of the issuer composition of non-G-Sec investments.

    PDs may also furnish more information by way of additional disclosures.

6.5   Reconciliation of holdings of Government securities

Balances as per PDs books should be reconciled at least at monthly intervals with the balances in the books of PDOs. If the number of transactions so warrant, the reconciliation should be undertaken at more frequent intervals.  This reconciliation should be periodically checked during audit.

6.6. Transactions on behalf of Constituents :

  1. The PDs should be circumspect while acting as agent of their clients for carrying out transactions in securities.

  2. PDs should not use the constituents’ funds or assets for proprietary trading or for financing of another intermediary’s operations.

  3. All transaction records should give a clear indication that the transaction belongs to constituents and does not belong to PDs’ own account.

  4. The transactions on behalf of constituents and the operations in the Constituent SGL accounts should be conducted in accordance with the guidelines issued by RBI on the Constituent SGL accounts.

  5. PDs who act as custodians (i.e. CSGL account holders) and offer the facility of maintaining gilt accounts to their constituents, should not permit settlement of any sale transaction by their constituents unless the security sold is actually held in the gilt account of the constituent. 

  6. Indirect access to NDS-OM has been permitted to certain segments of investors through banks and PDs vide circular IDMD.DOD.No.5893/10.25.66/2007-08 dated May 27, 2008. PDs should adhere to the guidelines on maintenance of gilt accounts and investments on behalf of gilt account holders while undertaking 'constituent deals' on NDS-OM.

6.7     Failure to complete delivery of security/funds in an SGL transaction

Any default in delivery of security/funds in an SGL sale /purchase transaction undertaken by a PD will be viewed seriously. A report on such transaction, even if completed through the securities/funds shortage handling procedure of CCIL, must be submitted to the Internal Debt Management Department, RBI immediately. The occurrence of third default in a period of 6 months (April -September and October-March) in funds and/or securities delivery will result in debarment of the PD from the use of SGL facility for a period of 6 months from the date of the third occurrence. If, after restoration of the facility, any default occurs again, the PD will be debarred permanently from the use of SGL facility.

7.  Trading of Government Securities on Stock Exchanges

7.1     With a view to encouraging wider participation of all classes of investors, including retail, in G-Sec, trading in G-Sec through a nationwide, anonymous, order driven screen based trading system on stock exchanges, in the same manner in which trading takes place in equities, has been permitted. Accordingly, trading of dated Government of India securities in dematerialized form is allowed on automated order driven system of the National Stock Exchange (NSE) of India, the Bombay Stock Exchange Ltd., Mumbai (BSE) and the Over the Counter Exchange of India (OTCEI). This trading facility is in addition to the reporting/trading facility in the Negotiated Dealing System. Being a parallel system, the trades concluded on the exchanges will be cleared by their respective clearing corporations/clearing houses.

7.2     PDs are expected to play an active role in providing liquidity to the G-Sec market and promote retailing. They may, therefore, make full use of the facility to distribute G-Sec to all categories of investors through the process of placing and picking-up orders on the exchanges. PDs may open demat accounts with a Depository Participant (DP) of NSDL/CDSL in addition to their accounts with RBI.  Value free transfer of securities between SGL/CSGL and demat accounts is enabled by PDO-Mumbai subject to guidelines issued by RBI’s Department of Government and Bank Accounts (DGBA).

7.3     Guidelines

  1. PDs should take specific approval from their Board to enable them to trade in the Stock Exchanges.

  2. PDs may undertake transactions only on the basis of giving and taking delivery of securities.

  3. Brokers/trading members shall not be involved in the settlement process.  All trades have to be settled either directly with clearing corporation/clearing house (in case they are clearing members) or else through clearing member custodians.

  4. The trades done through any single broker will also be subject to the current regulations on transactions done through brokers.

  5. A standardized settlement on T+1 basis of all outright secondary market transactions in G-Sec has been adopted to provide the participants more processing time for transactions and to help in better funds as well as risk management.

  6. In the case of repo transactions in G-Sec, however, market participants will have the choice of settling the first leg on either T+0 basis or T+1 basis, as per their requirements.

  7. Any settlement failure on account of non-delivery of securities/ non-availability of clear funds will be treated as SGL bouncing and the current penalties in respect of SGL transactions will be applicable. Stock Exchanges will report such failures to the respective Public Debt Offices.

  8. PDs who are trading members of the Stock Exchanges may have to put up margins on behalf of their non-institutional client trades. Such margins are required to be collected from the respective clients. PDs are not permitted to pay up margins on behalf of their client trades and incur overnight credit exposure to their clients. In so far as the intra day exposures on clients for margins are concerned, the PDs should be conscious of the underlying risks in such exposures.

  9. PDs who intend to offer clearing /custodial services should take specific approval from SEBI in this regard. Similarly, PDs who intend to take trading membership of the Stock Exchanges should satisfy the criteria laid down by SEBI and the Stock Exchanges. 

8.  Business through brokers

8.1     Business through brokers and contract limits for approved brokers  

PDs may undertake securities or derivative transactions among themselves or with clients through the members of the BSE, NSE and OTCEI. A disproportionate part of the business should not be transacted through only one or a few brokers.  PDs should fix aggregate contract limits for each of the approved brokers.  A limit of 5% of total transactions (both purchase and sales) entered into by a PD during a year should be treated as the aggregate upper contract limit for each of the approved brokers.   However, if for any reason it becomes necessary to exceed the aggregate limit for any broker, the specific reasons there for should be recorded and the Board should be informed of this, post facto. 

8.2     With the approval of their top management, PDs should prepare a panel of approved brokers, which should be reviewed annually or more often if so warranted. Clear-cut criteria should be laid down for empanelment of brokers, including verification of their creditworthiness, market reputation, etc.  A record of broker-wise details of deals put through and brokerage paid, should be maintained.

8.3     The brokerage on the deal payable to the broker, if any (if the deal was put through with the help of a broker), should be clearly indicated on the notes/memorandum put up seeking approval for putting through the transaction, and a separate account of brokerage paid, broker-wise, should be maintained.

8.4     The role of the broker should be restricted to that of bringing the two parties to the deal together. Settlement of deals between PDs and counter-parties should be directly between the counter-parties and the broker will have no role in the settlement process.

8.5     While negotiating the deal, the broker is not obliged to disclose the identity of the counter-party to the deal.  On conclusion of the deal, he should disclose the counter-party and his contract note should clearly indicate the name of the counter-party.

9.     Norms for Ready Forward transactions

PDs are permitted to participate in ready forward (Repo) market both as lenders and borrowers. The terms and conditions subject to which ready forward contracts (including reverse ready forward contracts) may be entered into by PDs will be as under:

  1. Repos may be undertaken only in a) dated securities and Treasury Bills issued by the Government of India; b) dated securities issued by the State Governments; and c) Cash Management Bills issued by the Government of India.

  2. Repos may be entered into only with scheduled commercial banks, Urban Cooperative banks, other PDs, NBFCs, mutual funds, housing finance companies, insurance companies and any listed company, provided they hold either an SGL account with RBI or a Gilt account with a custodian.

  3. Listed companies can enter into repo transactions subject to the following conditions:

    1. The minimum period for Reverse Repo (lending of funds) by listed companies is seven days. However, listed companies can borrow funds through repo for shorter periods including overnight;

    2. Where the listed company is a ‘buyer’ of securities in the first leg of the repo contract (i.e. lender of funds), the custodian through which the repo transaction is settled should block these securities in the gilt account and ensure that these securities are not further sold or re-repoed during the  repo  period  but  are held  for  delivery under  the  second leg; and

    3. The counterparty to the listed companies for repo/reverse repo transactions should be either a bank or a PD maintaining SGL Account with the RBI.

  4. A PD may not enter into a repo with its own constituent or facilitate a repo between two of its constituents. 

  5. PDs should report all repos transacted by them (both on own account and on the constituent's account) on the Negotiated Dealing System (NDS).  All repos shall be settled through the SGL Account/CSGL Account maintained with the RBI, Mumbai, with the Clearing Corporation of India Ltd (CCIL) acting as the central counter party.

  6. The purchase/sale price of the securities in the first leg of a repo should be in alignment with the market rates prevalent on the date of transaction.

  7. Repo transactions, which are settled under the guaranteed settlement mechanism of CCIL, may be rolled over, provided the security prices and repo interest rate are renegotiated on roll over. 

  8. The Global Master Repos Agreement on repos, with suitable schedules, as proposed by FIMMDA may be entered into by PDs with their counter parties to undertake repos transactions.

  9. PDs shall adhere to the guidelines for accounting of Repo / Reverse Repo transactions issued vide circular RBI / 2009-10 / 356 IDMD.No. 4135 / 11.08.43 / 2009-10 dated March 23, 2010, as amended from time to time.

  10. PDs are permitted to undertake repo in corporate bonds as given in the circular RBI / 2009-10 / 284 IDMD.DOD.No.05/ 11.08.38 /  2009-10 dated January 8, 2010.  PDs shall adhere to the directions “ Repo in Corporate Debt Securities (Reserve Bank) Directions, 2010”, as amended from time to time. 

10.   Portfolio Management Services by PDs

10.1   PDs may offer Portfolio Management Services (PMS) to their clients under the SEBI scheme of PMS, subject to the following conditions:

  1. Before undertaking PMS, the PD must have obtained the Certificate of Registration as Portfolio Manager from the SEBI and also a specific approval from the RBI.

  2. PMS cannot be offered to any RBI regulated entity. However, advisory services can be provided to them with suitable disclaimers.

  3. Where applicable, the clients regulated by any other authority should obtain clearance from the regulatory or any other authority before entering into any PMS arrangement with the PD.

  4. PDs are required to comply with the SEBI (Portfolio Managers) Regulations, 1993 and any amendments issued thereto or instructions issued there under.

10.2   In addition, PDs should adhere to the under noted conditions:

  1. A clear mandate from the PMS clients should be obtained and the same may be strictly followed. In particular, there should be full understanding on risk disclosures, loss potential and the costs (fees and commissions) involved.

  2. PMS should be entirely at the customer's risk without guaranteeing, either directly or indirectly, any return.

  3. Funds/securities, each time they are placed with the PD for portfolio management, should not be accepted for a period less than one year.

  4. Portfolio funds should not be deployed for lending in call/ notice/term money/Bills rediscounting markets, badla financing or lending to/ placement with corporate/non-corporate bodies.

  5. Client-wise accounts/records of funds accepted for management and investments made there against should be maintained and the clients should be entitled to get statements of account at frequent intervals.

  6. Investments and funds belonging to PMS clients should be kept segregated and distinct from each other and from those of the PD. As far as possible, all client transactions should be executed in the market and not off-set internally, either with the PD or any other client. All transactions between the PD and any PMS client or between two PMS clients should be strictly at market rates.

11.   Guidelines on interest rate derivatives

11.1 PDs shall adhere to the guidelines laid down in circular DBOD.No.BP.BC.86 /21.04.157 /2006-07 dated April 20, 2007 as applicable to interest rate derivatives and the Interest Rate Futures (Reserve Bank) Directions, 2009 dated August 28, 2009 issued by the RBI.  Stand-alone PDs (PDs) are allowed to deal in Interest Rate Futures (IRFs) for both hedging and trading on own account and not on client’s account, as given in the circular IDMD.PDRD.No. 1056/03.64.00/2009-10 dated September 1, 2009 and as amended from time to time.

11.2 PDs are required to report all their IRS/FRA trades on the CCIL reporting platform within 30 minutes from the deal time in terms of circular IDMD/11.08.15/809/2007-08 dated August 23, 2007.

11.3 PDs are required to report to IDMD, as per the pro forma indicated in Annex IX, their FRAs/ IRS operations on a monthly basis.

12.  Guidelines on declaration of dividends

PDs should follow the following guidelines while declaring dividend distribution:

  1. The PD should have complied with the regulations on transfer of profits to statutory reserves and the regulatory guidelines relating to provisioning and valuation of securities, etc.

  2. PDs having Capital to Risk Weighted Assets Ratio (CRAR) below the regulatory minimum of 15 per cent in any of the previous four quarters cannot declare any dividend.  For PDs having CRAR between the regulatory minimum of 15 per cent during all the four quarters of the previous year, but lower than 20 per cent in any of the four quarters, the dividend payout ratio should not exceed 33.3 per cent. For PDs having CRAR above 20 per cent during all the four quarters of the previous year, the dividend payout ratio should not exceed 50 per cent. Dividend payout ratio should be calculated as a percentage of dividend payable in a year (excluding dividend tax) to net profit during the year.

  3. The proposed dividend should be payable out of the current year’s profits. In case the profit for the relevant period includes any extraordinary profit income, the payout ratio should be computed after excluding such extraordinary items for reckoning compliance with the prudential payout ratio ceiling of 33.3 per cent or 50 per cent, as the case may be.

  4. The financial statements pertaining to the financial year for which the PD is declaring dividend should be free of any qualifications by the statutory auditors, which have an adverse bearing on the profit during that year.  In case of any qualification to that effect, the net profit should be suitably adjusted downward while computing the dividend payout ratio.

  5. In case there are special reasons or difficulties for any PD in strictly adhering to the guidelines, it may approach RBI in advance for an appropriate ad hoc dispensation in this regard.

  6. All the PDs declaring dividend should report details of dividend declared during the accounting year as per the prescribed pro forma (Annex X). The report should be furnished within a fortnight of payment of dividend.

13. Guidelines on Corporate Governance

PDs may adhere to circular DNBS.PD/CC 94/03.10.042/2006-07 dated May 8, 2007 on guidelines on corporate governance, as amended from time to time.

14. Prevention of Money Laundering Act, 2002 -Obligations of NBFCs

PDs shall adhere to the guidelines contained in circular DNBS(PD).CC.68 /03.10.042/2005-06 dated April 5, 2006, as amended from time to time.

15. Violation/Circumvention of Instructions

Any violation/circumvention of the above guidelines or the terms and conditions of the undertaking executed by a PD with the RBI (Annex I) would be viewed seriously and such violation would attract penal action including the withdrawal of liquidity support, denial of access to the money market, withdrawal of authorization for carrying on the business as a PD, and/or imposition of  monetary penalty or liquidated damages, as the RBI may deem fit.

16. Disclosure of Penal Actions

16.1    In order to maintain transparency with regard to imposition of penalties and in conformity with the best practices in disclosure of penalties imposed by the regulator, the details of the penalty levied on a PD shall be placed in the public domain.

16.2    The mode of disclosures of penalties, imposed by RBI will be as follows:

  1. A Press Release will be issued by the RBI, giving details of the circumstances under which the penalty is imposed on the PD along with the communication onthe imposition of penalty in public domain.

  2. The penalty shall also be disclosed in the 'Notes on Accounts' to the Balance Sheet of the PD in the next Annual Report.


Section II: Additional Guidelines applicable to banks undertaking PD business departmentally

1. Introduction

Scheduled commercial banks (except Regional Rural Banks) have been permitted to undertake Primary Dealership business departmentally from 2006-07.

2. Procedure for Authorization of bank-PDs

2.1     Banks eligible to apply for undertaking Primary Dealership business, (please see eligibility conditions at (iv) of paragraph 1.3.1 above) may approach the Chief General Manager, Department of Banking Operations & Development (DBOD), RBI, Central Office. On obtaining an in-principle approval from DBOD, banks may then apply to the Chief General Manager, Internal Debt Management Department, RBI, 23rd Floor, Central Office Building, Fort, Mumbai- 400 001 for an authorization for undertaking PD business departmentally.

2.2     The banks, proposing to undertake the PD business by merging / taking over PD business from their partly / wholly owned subsidiary, or foreign banks, operating in India, proposing to undertake PD business departmentally by merging the PD business being undertaken by a group company, will be subject to the terms and conditions, as applicable, of the undertaking given by such subsidiary/ group company till such time a fresh undertaking is executed by the bank.

2.3     The banks authorized to undertake PD business will be required to have a standing arrangement with RBI based on the execution of an undertaking (Annex I) and the authorization letter issued by RBI each year (July-June).

3.     Applicability of the guidelines issued for PDs

3.1 The bank-PDs would be governed by the operational guidelines as given in Section – I above, to the extent applicable, unless otherwise stated. Furthermore, the bank-PDs' role and obligations in terms of supporting the primary market auctions for issue of Government dated securities and Treasury Bills, underwriting of dated G-Sec, market-making in G-Sec and secondary market turnover of G-Sec will also be on par with those applicable to stand-alone PDs as enumerated in Section - I of this Master Circular.

3.2     Bank-PDs are expected to join Primary Dealers Association of India (PDAI) and Fixed Income Money Market and Derivatives Association (FIMMDA) and abide by the code of conduct framed by them and such other actions initiated by them in the interests of the securities markets.

3.3     The requirement of ensuring minimum investment in G-Sec and Treasury Bills on a daily basis based on net call/ RBI borrowing and net owned funds will not be applicable to bank-PDs who shall be guided by the extant guidelines applicable to banks.

3.4     As banks have access to the call money market, refinance facility and the Liquidity Adjustment Facility (LAF) of RBI, bank-PDs will not have separate access to these facilities and liquidity support as applicable to the standalone PDs.

3.5     It is clarified that for the purpose of "when-issued trades" issued vide circular IDMD.No/2130/11.01.01 (D)/2006-07 dated November 16, 2006, bank-PDs will be treated as PDs.

3.6     Bank-PDs shall be guided by the extant guidelines applicable to banks as regards borrowing in call/notice/term money market, Inter-Corporate Deposits, FCNR (B) loans /External Commercial Borrowings and other sources of funds.

3.7     The investment policy of the bank may be suitably amended to include PD activities also. Within the overall framework of the investment policy, the PD business undertaken by the bank will be limited to dealing, underwriting and market-making in G-Sec. Investments in Corporate/ PSU/ FIs bonds, Commercial Papers, Certificate of deposits, debt mutual funds and other fixed income securities will not be deemed to be a part of PD business.

3.8     The classification, valuation and operation of investment portfolio guidelines as applicable to banks in regard to "Held for Trading" portfolio will also apply to the portfolio of Government Dated Securities and Treasury Bills earmarked for PD business.

3.9     The Government Dated Securities and Treasury Bills under PD business will count for SLR.

3.10   Bank-PDs shall be guided by the extant guidelines applicable to banks as regards business through brokers, ready forward transactions, interest rate derivatives (OTC & exchange traded derivatives), investment in non- Securities, Issue of Subordinated Debt Instruments and  declaration of dividends.

4.     Maintenance of books and accounts

4.1     The transactions related to Primary Dealership business, undertaken by a bank departmentally, should be executed through the existing Subsidiary General Ledger (SGL) account of the bank. However, such banks will have to maintain separate books of accounts for transactions relating to PD business (as distinct from normal banking business) with necessary audit trails. It should be ensured that, at any point of time, there is a minimum balance of Rs. 100 crore of G-Sec earmarked for PD business.

4.2     Bank-PDs should subject 100 per cent of the transactions and regulatory returns submitted by PD department to concurrent audit. An auditors' certificate for having maintained the minimum stipulated balance of Rs. 100 crore of G-Sec in the PD-book on an ongoing basis and having adhered to the guidelines/ instructions issued by RBI, should be forwarded to IDMD, RBI on a quarterly basis.

5.    Capital Adequacy and Risk Management

5.1     The capital adequacy and risk management guidelines applicable to a bank undertaking PD activity departmentally, will be as per the extant guidelines applicable to banks. In other words, for the purpose of assessing the bank's capital adequacy requirement and coverage under risk management framework, the PD activity should also be taken into account.

5.2     The bank undertaking PD activity may put in place adequate risk management systems to measure and provide for the risks emanating from the PD activity.

6.     Supervision by RBI 

6.1     The banks authorized to undertake PD business departmentally are required to submit prescribed periodic returns to RBI promptly. The current list of such returns and their periodicity, etc. is furnished in Annex II A.

6.2     RBI reserves its right to amend or modify the above guidelines from time to time, as may be considered necessary.

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