The government has opened the doors for qualified foreign investors (QFIs) to the developing corporate bond market in India. However, the country would need more than just higher yields to attract fund inflows from this segment.
On Friday, Finance Minister Pranab Mukherjee had made the announcement when he presented the Union Budget for 2012-13. The move is expected to add depth to the corporate bond market.
Currently, an Indian corporate bond with ‘AAA’ rating maturing in five years offers close to 9.5 per cent. The coupon rate increases as the ratings decrease. “Even after hedging, a QFI may be able to earn a return of 3.5-4 per cent, which is better than those in other countries,” said a market arranger with a domestic brokerage.
Ashvin Parekh, partner and national leader, Ernst & Young, said, “Hypothetically, it is a good measure. But details on the eligibility conditions, maturity specifications and lock-in periods are awaited.” Though the Budget document did not state the details, the Reserve Bank of India is expected to bring out the norms in the course of the next financial year.
Even as the details are worked out, market participants said it was unlikely that the route would attract substantial flows in the next financial year. Jayesh Mehta, managing director and treasurer at Bank of America, said, “QFI participation through mutual funds has not taken off in Indian debt or equity yet. While direct participation is a good move, it would take long for issuers and investors to first fall in line with the norms, and then start dealing.”
The government had allowed QFIs to invest in Indian mutual funds in the Budget for 2011-12. Fund managers said even after almost a year, there has been negligible response to this move.
Another factor that may act as a deterrent is the credit rating of issuer companies. The corporate bond market is dominated by high-rated papers, which are few in number. According to ratings agency Crisil, as on September 30, not even five per cent of the companies it rated in India carried the premier ‘AAA’ rating. This leaves limited options for foreign investors looking for papers with investment grades in the country.
“The economy is slowing, there are downgrades taking place and India does not have a story to tell abroad,” said a market arranger with a domestic brokerage, referring to the issues banks may face while marketing the Indian paper to foreign investors. He added even if the yields were higher, foreign investors need to be ensured of liquidity.
There is a possibility that QFIs would be mandated to lock in funds for a minimum period, as is the case with foreign institutional investors (FIIs). “Looking at the sector-specific requirement for funds in India, it seems the measure is aimed at opening alternative channels to fund infrastructure requirements. In that case, there could be a minimum lock-in period for investments,” said Parekh.
FIIs are allowed to invest up to $45 billion in corporate bonds, of which $25 billion is for infrastructure bonds. The bonds have a lock-in period of one year. Data from the Securities and Exchange Board of India showed as on February 29, the unused limit in the corporate bond segment was Rs 6,662 crore (approximately $1.3 billion).
