RBI Moves To Ease Pressure On Short Term Yields

The Reserve Bank of India has eased rules for foreign investments in government and corporate bonds, reversing, in some cases, rules imposed in the aftermath of the global taper tantrum of 2013. Most importantly, the central bank has allowed foreign investors to invest in shorter tenure bonds, which should allow short term rates to fall, said bond market participants. The move could also bring some relief to the Indian rupee, which has fallen more than 4 percent so far this year.

Rates in India have risen sharply due to pressures on government finances and concerns around inflation. In recent weeks, the increase in rates has been more evident in the case of shorter term borrowings, particularly for corporates. Local and global volatility in rates has also reduced foreign investor interest. Foreign investors have been net sellers of Indian debt for two consecutive months now. This, in turn, has been partly responsible for the weakness in the Indian currency.

The new rules could lead to increased foreign investor interest and allow for some decline in rates.

In the case of government securities, the RBI has said that all residual maturity limits will be removed. Until now, foreign investors were allowed to invest in securities with a residual maturity limit of three years. The restriction had been imposed in 2014 after it was noted that short-term speculation was leading to excessive volatility in interest rates and the rupee.

For corporate bonds, a residual maturity of one year has been retained but this has been reduced from three years earlier.

“We would expect short term government and corporate bonds to open stronger and rates to fall,” said Lakshmi Iyer, chief investment officer - fixed income, at Kotak Mahindra Asset Management. “It is a much needed relief for carry traders,” she added.

We expect short term government bond yields to fall 30-35 basis points and short term corporate bond yields by 25-30 basis points, said a bond market trader.

Other key changes introduced by the RBI include:

• Foreign investors can now hold upto 30 percent of a security from 20 percent earlier.
• No auction for FPI limits; limits to be monitored online.
• Concentration caps placed on FPI limits.
• For government bonds, single investor cannot hold more than 10 percent of investment limit in that category.
• For corporate bonds, limits placed on single and group exposure to individual securities.
• No FPI, along with related parties, can hold more than 50 percent of a corporate bond.

Revised ECB Policy

Separately, the RBI also announced changes to its external commercial borrowing policy.

The central bank has widened the pool of eligible borrowers:

• Housing finance companies, regulated by the National Housing Bank, as eligible borrowers can avail of ECBs under all tracks.
• Port trusts constituted under the Major Port Trusts Act, 1963 or Indian Ports Act, 1908 can avail of ECBs under all tracks.
• Companies engaged in the business of maintenance, repair and overhaul and freight forwarding can raise ECBs denominated in Indian rupees only.

In addition, the RBI said that the all-in-cost ceiling for all external borrowings and rupee denominated bonds would be harmonised. This ceiling has been set at 450 basis points above the 6-month London Inter-bank Offered Rate.

The cap on the ‘ECB liability to equity’ ratio has been set at 7:1 under the automatic route, said the RBI. This is applicable to commercial borrowings raised from direct foreign equity holders. Earlier an ‘ECB liability to equity’ ratio of more than 4:1 needed approvals from the RBI.

The policy governing end use of external commercial borrowings has also been rationalised. All categories of borrowers will now work with a ‘negative list’, The ‘negative list’ includes investment in real estate or land, investment in capital market, among others. Earlier, while certain categories of borrowers were subject to a negative list, some others were given a ‘positive list’, detailing uses that they can bring in ECBs for.