The current optimism in the debt capital market was hardly expected as the year started with various uncertainties. The scenario would have been really difficult for the debt market without the various regulatory announcements. The start of the year was marked by a strong aversion to risk for corporate bonds which resulted in a widening of credit spreads due to the demand for a moratorium on the service of bonds similar to bank loans, leading to uncertainty about the quality of the underlying assets. The liquidation of a few debt projects by a mutual fund house meant that the debt capital market was heading for rough times over the next few months.
However, positive aspects like improved economic activities after the lifting of foreclosure restrictions, various measures taken by the government and the Reserve Bank of India (RBI) to keep interest rates low and ensuring sufficient liquidity in the system have improved sentiment and resulted in bond issues in recent quarters.
In fact, total bond issuance in the first half of fiscal 2021 has increased by 75% compared to the corresponding period last year. Although the volumes of bond issuances in the first quarter of fiscal 2021 were supported by targeted long-term repo operations (TLTROs), which provided low-cost financing to banks for the purchase corporate bonds in the primary and secondary markets, the strong issuance volumes in the second quarter of fiscal 2021 reflect better investor appetite in general. All corporate bonds in circulation in September 2020 at Rs 34.1 lakh crore represent around 33% of systemic bank credit, up from around 24% in September 2010.
With a sustained improvement in collections reported in September and October 2020 by various lenders, we can expect an increase in disbursement volumes in the second half of the year, if the collection trend continues. In addition, with some of the stronger financial services entities already reporting disbursement volumes close to pre-covid levels, any revisions to growth estimates may also help support second half bond issuance volumes.
While these positive aspects create near-term optimism, further regulatory reforms undertaken in recent months could lead to further development of bond markets, as it is believed to be a panacea for improving bond markets. credit. The recent Circular of the Securities and Exchange Board of India (SEBI) for the creation of a guarantee against corporate bonds and the due diligence of such securities by the debenture trustee for the sufficiency of these assets to meet the obligations is a another positive measure to protect the rights of investors.
After a few quarters of outflows, net inflows picked up in debt UCITS. This bodes well for the market, as MFs are active participants in the bond markets with 17-18% of the outstanding bonds held by them. The recent episode of liquidation of a few debt regimes by a fund house shows the relative lack of depth and illiquidity in our corporate bond markets. Such illiquidity in secondary markets and the open nature of debt systems create their own challenges.
SEBI’s proposal to create a back-stop facility to purchase such illiquid investment grade bonds could be a step in the right direction to improve the liquidity of these corporate bonds. In addition, the proposal to have a framework for a stress test methodology for open-ended debt regimes, which might require greater holding of liquid securities by open-ended funds, may improve investor confidence. and drive sustainable growth in assets under management of debt UCIs.
Meanwhile, with growth of 75%, we expect new bond issuance to reach Rs 8.0-8.2 trillion in this fiscal year, compared to Rs 6.55 billion in the year. ‘Fiscal Year 2020. With an estimated repayment of Rs 4.95 trillion in FY 2021, the volume of outstanding corporate bonds is expected to reach Rs 35.5-35.8 trillion, resulting in year-on-year growth of 9.2 to 10% for fiscal 2021.
Supported by regulatory measures and excess liquidity, not only did corporate bond yields decline, but the spread between corporate bonds and government securities (G-sec) of similar securities also fell to levels pre-Covid in the second quarter of fiscal 2021. For example, a 3-year AAA-rated corporate bond yielded 5.31% (36 basis points on G-sec) in September 2020, up from 6. 48% (64 basis points on G-sec) in February 2020. Similarly, a 3-year rate AA-rated corporate bonds yielded 6.13% (117 bps on G-sec) in September 2020, compared to 7.17% (133 bps on G-sec) in February 2020.
The certainty of the availability of financing at competitive rates has improved. Spreads have now fallen to levels below the daily average over the past five years and therefore the scope for further decline, if any, remains limited. However, lower investor risk aversion and lower cost of funding could mean better certainty of funding and, therefore, a lower need to maintain high liquidity on the balance sheet, as observed in the first half of the year. 2021 in an uncertain funding environment.
(The author is Senior Vice President, Financial Sector Ratings, ICRA Ltd., his opinions are his own)