Borrowing abroad

Indian corporates have been on a fund-raising spree abroad, and the value of Indian paper placed overseas this year has been the highest since 1997-98. The pace of borrowing seems to be accelerating, with companies raising $1.5 billion in September through overseas borrowing, well above August's $886 million.

The parallel with the mid-nineties is more than merely fortuitous""the mid-nineties were the period during which Indian corporates expanded capacity and set up greenfield units at a frenetic pace, and the resources raised abroad were ploughed into fresh investments at home.

This year too, after a gap of seven to eight years, capacity utilisation in Indian industry has been high and many companies are looking to invest in fresh capacity.

The similarities with the mid-nineties end there. This time, corporates are flush with funds and domestic interest rates continue to be low. So why are companies borrowing abroad? One reason is to fund the overseas operations of increasingly global businesses.

Exporters who have dollar inflows have a natural hedge, and they do not need to take forward cover. Reserve Bank of India data show that the funds have been used for all kinds of things, from importing capital goods for modernisation and expansion to funding working capital needs.

The other reason is the lower cost of borrowing""even on a fully hedged basis, a one-year dollar loan will be cheaper than one-year corporate paper placed in the domestic market, especially now that short-term rates have moved up sharply in the Indian bond market.

Also, with the strengthening of the rupee and widespread expectations among market participants that the dollar is likely to get weaker, thanks to the record US current account deficit, the cost of borrowing comes down even if one doesn't hedge.

These trends, together with the desire to lock into low interest rates overseas, are the factors behind the sharp rise in borrowing.

However, the boom in external funding is not limited to Indian companies""by mid-October, emerging market bond issuance had already surpassed the amount raised in all of 2003.

The benchmark JP Morgan Emerging Market Bond Index Plus has gained 8.84 per cent so far this year, a rate of return well above the 3 per cent gain in the S&P 500 index. Money has been pouring into emerging market bonds after a sharp sell-off in May and June, as long-term bond yields fell in the US on concerns that the US economy is slowing down.

Emerging market bond spreads have also been low, and corporates have also been able to combine the attractions of Indian equity and Indian debt by going in for convertibles.

Will the party last? Appetite for Indian paper has in part been fuelled by its relative scarcity among global investors, and as more of it comes to the market, demand may diminish. Rising interest rates in the US may also reduce the incentive to search for higher yields.

Nevertheless, the dollar weakness is one factor that is unlikely to go away in a hurry, and that will be a factor in favour of emerging market assets. New investors seeking exposure to the world's fastest-growing economies are another positive factor.

And in spite of the uncertainties, one thing is certain""India Inc's external borrowing has to some degree helped moderate the increase in domestic interest rates.