FPIs left in the lurch as debt investment route reaches limit

Many won't be able to meet commitments that were to be bid in tranches, say experts

Foreign debt investment through the voluntary retention route (VRR) has seen a sudden surge in the past few days on the back of one or two large transactions, totalling Rs 15,000-20,000 crore, said people in the know.

This has resulted in the utilisation of the VRR limit and has caught a number of foreign portfolio investors (FPIs) off guard as they will be unable to fulfil their original investment commitments that were to be bid in tranches.

“In the last 2-3 weeks a huge chunk of the limit has been taken away, as a result of which many of our clients can’t go ahead with their transactions,” said Suresh Swamy, a chartered accountant.

VRR represents appetite for “long-term” rupee credit by FPIs and was introduced by the Reserve Bank of India (RBI) on March 1, 2019. The original allotment amount was Rs 75,000 crore, which was subsequently increased to Rs 1.5 trillion last year under the “VRR Combined” category and was made available on tap. Accordingly, the total fresh allotment made last year was for Rs 90,630 crore, which stands fully utilised.

“While this is an encouraging development since it denotes investor appetite in committing ‘long-term’ debt capital to Indian companies, most custodians and advisors to FPIs have been taken aback due to the sudden increase in utilisation,” said Anand Singh, founder, Wilson Financial Services. “A number of FPIs that we advise have committed to their Indian companies on debt investments and may fail on their commitments if they do not get additional limits.”

A few custodians have asked the RBI to consider increasing the existing limits and are hopeful that it will heed their request soon, said people familiar with the matter.

According to Singh, the VRR route has gained popularity among investors as it allows an FPI to participate in a deal without having to find another foreign investor and because the residual maturity clause does not have to be applied for limits under the VRR category.

The route can be used for investment in corporate bonds and government securities as long as the money is parked for three years. A lot of structured private equity deals are being done through VRR.

“FPIs have got comfortable with VRR as it allows them to invest in debt without any categorisation of sectoral and duration limits,” said Ajay Manglunia, managing director and head of institutional fixed income at JM Financial.

The current VRR limit is not very large compared to the overall limit for corporate bonds and government securities, which is why the RBI should not have too many issues with increasing it, added Manglunia.

The limits for corporate bond and G-secs remain underutilised, with the former seeing a utilisation of 21 per cent. Market observers believe that an increase in limits may prove useful in case the US Federal Reserve decides to hike interest rates next year and there is a flight to safety.

“At least a part of the FPI money into the Indian fixed income will be locked in for a longer tenure and that’s reassuring,” said a custodian.

To be sure, a lot of fresh investments in debt come through the full accessible route (FAR). There is no limit on the quantum of money that can be invested through this route, but the investments are restricted to select government securities.

Despite a relatively stable currency, FPIs have remained net sellers of Indian debt to the tune of $1.7 billion this year, in addition to $13.8 billion in 2020. The rupee has depreciated 0.3 per cent against the dollar this year.