Explained: As bank lending slows, bond market takes centre stage

While overall credit growth is predicted to moderate in FY2025, domestic bond issuance is expected to rise, driven by attractive interest rates and potential foreign investment.

ICRA, a credit rating agency, forecasts that the growth of new loans (incremental credit flow) in the Indian economy will slow down in the financial year 2025 (FY2025), while bond issuances are expected to rise to Rs 10.6 trillion in FY2025 from Rs 10.2 trillion in FY2024.

Why bonds are suddenly attractive?

While the overall growth of new credit in the Indian economy might slow down in FY2025, the bond market is expected to pick up the slack. Companies are likely to take advantage of attractive domestic interest rates and favorable conditions to raise money by issuing bonds.

 As interest rates remain high in developed countries, borrowing money domestically through bond issuance becomes a more attractive option for Indian companies.
 

 If the yield on Indian Government Bonds (IGBs) remains stable due to foreign investment, the competitiveness of bond issuance compared to bank loans is expected to improve. This could incentivize companies to issue more bonds.

Here's a breakdown:

Source of credit: The slowdown  in bank credit is expected to be primarily from domestic sources, which are likely to provide Rs 24.5 trillion in new loans in FY2025. This is lower than the record high achieved in FY2024 

Non-Food Bank Credit (NFBC): This refers to loans provided by banks for purposes other than agriculture. ICRA expects NFBC growth to also moderate slightly in FY2025 compared to the record high of FY2024.

Bond market to pick up slack: 

Corporate Bond issuances: ICRA predicts that even though overall credit growth might slow down, companies will increasingly turn to issuing bonds to raise money. This is likely due to:

Attractive Interest Rates: Interest rates are expected to remain high in developed countries. This makes borrowing money domestically in India (through bond issuance) a more attractive option for large companies.

Favorable conditions: ICRA expects conditions for issuing corporate bonds to remain positive for both companies issuing bonds (borrowers) and investors buying them.

The total value of all corporate bonds currently issued (outstanding) is expected to reach RS 50.3 trillion by the end of March 2025. This represents a YoY (Year-over-Year) growth of 9.5%.

"Competitive funding conditions in domestic markets compared to developed markets meant that large corporates tapped more domestic funding sources over the last two years. Strong demand for loans from retail borrowers and non-bank finance companies (NBFCs) drove a significant portion of the incremental flow of credit from banks. This resulted in the highest ever NFBC expansion of Rs 22.3 trillion in FY2024 far outpacing the incremental NFBC expansion of Rs. 18.2 trillion recorded in FY2023," noted ICRA in a note.

The incremental credit flow was also supported by the all-time high corporate bond issuances of Rs 10.2 trillion in FY2024 (YoY +16.9%), resulting in the stock of corporate bonds outstanding rising to an estimated Rs 46.0 trillion (+6.6% YoY) as on March 31, 2024, from Rs. 43.1 trillion as on March 31, 2023. 

Domestic bond issurances

Besides, the stock of commercial papers (CPs) outstanding also rose by Rs 0.4 trillion in FY2024 to Rs. 3.9 trillion as on March 31, 2024. Cumulatively, these three sources accounted for Rs. 25.4 trillion of incremental credit flow in the domestic market, an all-time high.

Headwinds for bank lending:

Regulatory actions: Recent regulations on unsecured loans (personal loans without collateral) and limitations on bank funding for NBFCs (Non-Banking Financial Companies) might restrict the growth of new loans offered by banks. Reduced availability of cash in the banking system could further limit banks' ability to provide new loans.

However, the yield on Indian Government Bonds (IGBs) is likely to remain range-bound, driven by demand from foreign portfolio flows upon inclusion of IGBs in global indices. This shall improve the competitiveness of funding from debt capital markets vis a vis bank borrowing and would drive up corporate bond issuances, said ICRA.

"“Growth is expected to eventually taper off from these levels on the back of tight liquidity, even as the foreign flows in IGBs will remain supportive for growth in corporate bond issuances. Accordingly, ICRA estimates incremental total credit (bonds, non-food bank credit and CPs) expansion to dip to Rs. 24.5 trillion in FY2025,” said Sachin Sachdeva, Vice President & Sector Head, ICRA.