Only major firms relishing masala bonds

Investor and not the issuer bears the risk of rupee-denominated bonds

Masala bonds, or rupee-denominated bonds issued by Indian firms, have caught the fancy of at least three companies. But these cannot be called a game changer yet, said market observers.

Lower-rated companies, for one, might have little chance to tap the market to raise funds.

The issuers have so far been highly rated but their international ratings are limited by the country’s sovereign rating of BBB-, a shade above junk. The rupee’s recent stability and the high yields of the bonds have added to the attraction, but investors are bearing credit risk, currency risk and rates risk.

The demand for the papers was phenomenal. The issuers, though big names, raised money at a cost higher than the companies would have raised in the domestic market. Thus, the cost of fundraising cannot be termed cheaper. The foreign investors had refused to bear the withholding tax and the issuer, on top of the initial coupon, also added the tax component as the final rate of return on these bonds. So far, only three masala bond issuances have taken place. HDFC Ltd was the first in the space; it raised ~3,000 crore in July. State-owned NTPC raised ~2,000 crore and Adani Transmission raised ~500 crore earlier this month. There were talks of HDFC going for a second tranche of bonds in September-October, but the company’s spokesperson did not confirm that.

NTPC managed to raise the bonds at 20 basis points lower than the domestic AAA benchmark, before adjusting for withholding tax that the investor should pay to the government. But for now, the issuers are bearing the cost to make masala bonds popular.

These are highly rated companies and are familiar names to overseas investors. Papers of these companies have huge demand even in the domestic market. By tapping the masala bond market, these companies are helping broad-base the investor base for other Indian firms, which need alternative sources of funding, particularly cheap funding from abroad.

“Masala bonds have good potential for being a viable strategic option for Indian corporates to raise financing from global investors,” said Mickey Doshi, Credit Suisse India Country CEO. “The HDFC masala transaction paved the way for more issuers to consider masala bonds and we expect more public and private companies to consider this as an option.”

However, for now, the market will be restricted to highly rated firms. “More quality, blue-chip names will be able to tap the initial offshore rupee bond market, as investors can focus risk management on rates and forex rather than worrying about the credit element. Also, given that liquidity is still an issue for investors who are looking to trade the bonds, masala bonds will appeal much more to buy-and-hold investors,” Doshi said. According to Naresh Takkar, Group CEO at ICRA Ltd, lower rated firms will be able to tap the market overtime, but not immediately, as even in the domestic market, the bond route is restricted to higher rated firms. “However, there could be special category of investors looking for higher yields who would be interested in lower rated bonds too,” said Takkar, adding, “the masala bonds market can be a good funding avenue for firms with large funding requirement and are looking to diversify their source of funding for varied reasons, including exposure norms in the local market.”

HDFC’s three-year bonds bore a fixed semi-annual coupon of 7.875 per cent, a rate that would have been possible while raising money onshore. But, compensating for the additional tax the investors would incur, the all-in annualised cost has come to around 8.33 per cent per annum. “Even for a top company, the bonds are not a cost-effective avenue,” said the head of treasury of a foreign bank who did not wish to be named. “The reason for going in to this market is purely the novelty factor for now. Otherwise, it makes very little sense for the companies to offer the withholding tax component every time they issue a bond.”

According to the banker, demand for these bonds will take a long time to get established. Till then, only sporadic issuances can be expected.