Masala bonds a funding window for banks, but NPAs still weigh

The Reserve Bank of India’s (RBI’s) decision to allow banks to issue ‘masala bonds’ has opened up an additional source of funding for Indian lenders, who are facing difficulties in raising capital in the country.

The central bank’s move will not only help lenders meet mandatory capital requirements, but also provide companies with funds for infrastructure and housing projects.

But the extent to which banks will be able to use this channel to raise capital remains to be seen as investments also depend on the risk appetite of foreign investors, the pricing of the bond and demand for the rupee.

Moreover, public sector banks have had weak balance sheets over the past two years, which may affect overseas investors’ perceptions, which are already tempered amid global risks.

While masala bonds have the potential to open up an international investor base, firms with weaker balance sheets may find it difficult to use it, according to a report by Fitch Ratings.

The overall impact of the decision, however, is expected to be positive.

“Banks need capital. This will open up avenues to raise resources from overseas markets. Earlier, banks could raise only through the ECB (external commercial borrowings) route, which was limiting,” said NS Venkatesh, executive director at Lakshmi Vilas Bank.

Gaurav Pradhan, co-head of investment banking and capital markets at Credit Suisse said: “From a macro perspective, it (masala bonds) will help banks to better manage their balance sheets and lower their cost of funds. It should have a positive impact on interest rates.”

Since masala bonds are denominated in rupees, they reduce the risk of currency depreciation, a big worry while raising money from overseas markets. In turn the buyer of the masala bond earns a higher interest rate to compensate the risks of depreciation of the currency of her/his nationality.

Since, the rupee has more or less remained stable for the past two years, these bonds can attract investors.

International Finance Corporation, an arm of the World Bank, first issued masala bonds in November 2013 to raise ₹1,000 crore. Last month, HDFC raised ₹3,000 crore through masala bonds. State-owned NTPC also raised ₹2,000 crore through such bonds this month.

While HDFC offered an annual return of 8.33%, NTPC’s bond carried a yield of 7.48%.

MASALA BONDS ARE RUPEEDENOMINATED BONDS ISSUED TO OVERSEAS INVESTORS AND SETTLED IN DOLLARS.