)
The lack of clarity over the issuance of tax-free bonds this financial year has triggered strong demand for these instruments in the secondary market. Market players say about Rs 200 crore of tax-free bonds are changing hands on a daily basis on stock exchanges and the over-the-counter (OTC) market. The demand is spread across investor categories, including retail and corporates.
The unprecedented demand for these bonds, issued in 2013-14, has sparked a rally, driving down yields on paper issued by companies such as National Housing Board (NHB), NTPC Ltd and NHPC Ltd as much as 50 basis points.
Experts say these bonds are in short supply, as investors expect prolonged lull in the primary market. "Hardly any tax-free bond issuance is expected in the first half of 2014-15. Once the new government is in place, it will first announce the Budget for 2014-15. Typically, the CBDT (Central Board of Direct Taxes) notification for issuance of such bonds comes two or three months after the Budget. Therefore, it is possible it will not come before November,” said Ajay Manglunia, head of fixed income at Edelweiss.
The demand for these bonds has also been fuelled by fears the new government may not continue with these instruments. “It is likely the new government might not continue with tax-free bonds at all. If it does, one doesn't know whether it will have a different approach. If the new government agrees to allow tax-free bonds, these won’t, for sure, hit the market before six or seven months,” said Ashish Ghiya, managing director, Derivium Capital & Securities.
The rally in tax-free bonds has come at a time when yields on the benchmark 10-year government security (G-Sec) have hardened from 8.8 per cent during the beginning of the month to as high as 9.1 per cent. This has seen the spread between these bonds and the G-Sec widen.
According to norms, tax-free bonds in the primary market have to be priced at least 80 basis points lower than their reference G-Secs.
For the tax-free bond market, the last financial year was a successful one, with state-owned companies raising about Rs 50,000 crore though this route. Most bond issuances had seen oversubscription, as investors across segments were drawn by the attractive yields on offer. About a dozen state-owned companies issued tax-free bonds across tenures, with coupon rates of 8-8.76 per cent to non-retail investors. For retail investors, the coupon rate was 25 basis points higher.
What is also driving demand now is hope the inflation and interest rate scenario will be more benign in the latter part of this financial year. As a result, tax-free bonds issued in 2014-15 might have lower coupon rates compared to 2013-14. Experts say a favourable outcome of the elections would soften yields further. Unlike other debt instruments, the interest earned on tax-free bonds is exempt from income tax. As a result, the effective yield on these instruments is far higher.
The government had introduced tax-free bonds in 2011-12 to boost infrastructure development in the country. State-owned companies involved in various infrastructure projects are allowed to issue such bonds.
