Masala Bonds Fail to Take off on High Costs
Lack of liquidity, high taxes deter borrowers from raising money
Mumbai: Masala bonds, the rupee securities touted as a replacement for overseas borrowings for Indian companies, have failed to take off as lack of liquidity, risk premium and high taxes deter borrowers to raise money through this new funding source.
Close to seven months after the Reserve Bank of India (RBI) notified the issuance of these new instruments, as many as six companies have tried but eventually declined to issue these bonds, citing high costs.
Bankers say the 5% withholding tax and illiquidity premium that foreign investors demand is at the heart of why there has been no issues. Last week, RBI tried to address part of the problem when it cut the tenure for these bonds to 3 years from 5 earlier.
The central bank also brought these bonds under the overall ₹ 2.44 lakh crore limit for foreign investors in corporate bonds. The reduction in tenure is likely to reduce hedging cost for investors, reducing the cost of issuanceforIndianfirms,bankerssaid. However, it is unlikely to lead to the first domestic masala bond issuance.
“The reduction in tenure is a step in the right direction but investors are worried about liquidity,” said Rakesh Garg, MD, Barclays India. “In overseas markets, liquidity is not there. Investors do not even know whether they will be able to sell the bonds.”
Bankers said withholding tax adds 40-50 bps to the cost of the bond plus the illiquidity premium that foreign investors demand, which means that the difference between an onshore rupee issuance and an offshore issuance is at least 50-75 bps, making little sense for companies to issue these securities in the foreign market. One basis point is 0.01 percentage point.
Half a dozen top rated companies — HDFC, state-owned NTPC, Indian RailwaysFinanceCorporation,Power FinanceCorporation,DewanHousing Finance — haveshelvedplanstoraise funds after meeting investors in Asia and Europe. Adani Transmission too had tested the waters.
Garg suggested allowing domestic institutional investors to buy and sell these bonds at secondary market overseas to create liquidity. “The moment you allow fungibility, there will be synchronisation of yields between onshore and off- shore markets,” he said.
However, others advice caution. “It does not make sense for domestic institutions to buy these bonds. Why should they spend $5,000 and trade in these bonds in London when t hey c a n buy them in Churchgate? For issuers, it creates a new market for investors. This will pick up as the economy grows and the rupee is stable,” said Hitendra Dave, head of global banking and markets for India at HSBC.
Keki Mistry, CEO at HDFC, one of the first companies to try issuing these bonds, said the costs of issuing these bonds has to come down which can lead to issuances. “We can take a 10 to 20 basis point hit to create a new market but 50 to 75 basis points cost difference is too much. But we will still look at these bonds whenever there’s appetite in the market and the rupee is strong because it creates a brand new continuous source of funds for us,” Mistry said.