MASALA BONDS: Elixir to the ailing PSB’s?

By GANDHALI INAMDAR

After playing host to Yankee, Bulldog, Samurai & Dim sum, foreign bonds market witnessed the entry of a new member, “Masala Bonds”. The first Masala bond (Rs.1000 Cr.) was issued by the World Bank backed International Finance Corporation (IFC) in November 2014. In July 2016, HDFC raised Rs.3000 Cr. from Masala bonds becoming the first Indian company to issue masala bonds. NTPC, Adani Transmission, Axis Bank and Indiabulls followed suit.

Masala bond is a term used to refer to a financial instrument through which Indian entities can raise money from overseas markets through bonds issued in Indian Rupee for a minimum period of 3 years. If the dollar value appreciates, investor gets lesser amount in hand at maturity. Thus, currency risk lies with the investor.

Furthermore, the limited offshore liquidity in Rupee, the cost and availability of hedging for investor, and investors’ view of exchange rate fluctuations will affect the pricing of these bonds.

In the Indian context, there is merit in the masala bond move, since India Inc. can do good with some foreign investment minus the currency risk for their capital requirements, infrastructure financing and affordable housing projects. Masala bonds can also be considered as a step towards internationalization of the Indian rupee and can also help strengthen the Indian Financial System.

As a initiative to support Masala Bonds, the Finance minister has cut the withholding tax on interest income from 20% to 5%, making it more attractive for investors. Also, the tax from capital gain due to Rupee appreciation will also be exempted.

For foreign investment bankers, the interest rates on Masala bonds (approx. 7%) are much more attractive than their domestic bond counterparts. Furthermore, the Ratings agency S&P has predicted that Masala bonds will reach $5 billion in next two-three years.

Masala bonds are expected to bring to the Indian economy the required energy to recover from its investment slumber and the malaise of NPAs. Indian banks, especially Public Sector Banks (PSBs), need rather a lot of capital going forward. There are three reasons for this. First, banks are looking towards positive cash inflow opportunities to tackle NPAs. Second, the Indian economy is growing and this requires an increase in credit in the future. Third, there’s a general tightening up of bank capital standards under Basel III norms and this means that all banks would need more capital.

PSBs international Credit Rating (CR) derives its strength from India’s sovereign rating. Private Bank’s CR dependence on India’s sovereign rating is primarily indirect. Thus, a masala bond issued by a PSB could be considered as a proxy to India’s sovereign credit rating. This aspect can have interesting after effects on economy.

Investors would need to keenly watch the credibility of the issuer. Higher the CR of a firm, the better would be the appetite for their bonds. Since the currency risk is on the investors, they will prefer Rupee to be stable.

Having a huge growth potential, only time will tell if Masala bonds can become the penicillin to India’s current cold.

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