RBI’s Package Brings Immediate Relief To Corporate Debt Market

Borrowing costs for corporations fell swiftly after the Reserve Bank of India announced a package of measures to bring relief to the economy.

Nearly 75 percent of the economy has come to a standstill after Prime Minister Narendra Modi announced a 21-day lockdown to curb the spread of coronavirus. To counter the “severe” macroeconomic stress, the RBI announced a 75 basis points cut in the repo rate, additional liquidity provisions of Rs 3.75 lakh crore and relief for borrowers.

For the corporate bond markets, which had seen rates surge in the last two weeks, the central bank announced a “targeted long term repo operation”. The RBI will offer banks up to Rs 1 lakh crore for a three-year period provided they invest this in investment grade corporate debt.

“There had been a dislocation in bond markets due to large redemption both from mutual funds and foreign portfolio investors, which has nothing to economic fundamentals. These kinds of dislocations could have severally impacted financial stability at a time when we are already strained,” said Ananth Narayan, associate professor at SP Jain Institute of Management and Research. “The LTROs will help bring down corporate bond yields.”

Immediate Relief

The relief was almost immediate.

Credit spreads, or the additional interest charged over government bonds, on corporate bonds fell by 75 to 100 bps during the day, depending on the issuer, according to experts that spoke to BloombergQuint.

According to data from the Clearing Corporation of India Ltd., yields on commercial paper and certificates of deposits dropped.

For instance, Axis Bank CDs, maturing in June this year, were traded at a weighted average yield of 8.1 percent on Monday. On Friday, the rate on CDs of a similar maturity, came down by 300 basis points to 5.1 percent.

Commercial paper yields also saw a sharp fall.

Yields fell between 120 and 300 basis points, across issuers and maturities compared to earlier in the week, according to CCIL data.

For instance, yields on CPs issued by the Housing Development Finance Corporation Ltd. were trading at 8.7 percent earlier this week. On Friday, yields on the housing-financiers’ CPs, of a similar maturity, fell significantly by 172 basis points to 6.98 percent.

Well-Designed Solution

Fixed income experts say the RBI’s targeted LTRO is well designed and will have a direct impact.

For instance, by allowing these securities to be placed in the held-to-maturity bucket, banks will not be subject to mark-to-market risk, said Arvind Chari, head of fixed income and alternatives at Quantum Advisors Pvt. Ltd.

“It is a smartly design facility. If you look at the previous LTROs, assuming that the banks took the money and bought three or five-year corporate bonds, they would have a mark-to-market hit is almost 100 basis points by now,” he said. That will not be the case under the targeted LTRO.

Suyash Choudhary, head of fixed income at IDFC Asset Management, in a March 27 note said, “The design of the new program and the dispensations on fluctuation risk and exposure limits will hopefully restart banks’ appetite in quality money market and corporate bonds.”

The RBI in its circular said that bonds bought using this facility will not be counted towards the total exposure of a lender to a company.

Also the RBI has said that 50 percent of the long term funds raised by banks will need to be invested in the primary market. The rest can be invested via secondary market trades. This will substantially help liquidity for other market participants, said Choudhary.

Primary market activity, though, may still be slow to pick-up.

Primary market issuances in the corporate bond market may be stalled in the coming weeks due to the lock-down and slowdown in business activity, said Ajay Rangani, senior vice-president, Yes Securities. “The recent rise in yields in the corporate bond markets may have put-off many issuers from issuing fresh bonds, but with the RBI pushing banks to invest in the primary market, issuances could begin again in the coming quarters,” he said.