Development of the Indian Corporate Bond Market

By Abraham Mathew Valliyakalayil

The world GDP stood at nearly 74 trillion in 2015. The worth of the world bond markets was 100 trillion. Where was India at that time? This article attempts to juxtapose the Indian bond market with that of the world. Indian debt market is just 17% of its GDP as compared to the US which is worth 123%. We also lag behind with respect to other emerging markets such as Malaysia, Thailand, and China.

There can be a plethora of reasons for this trend. Firstly, India in contrast to these countries offers much higher interest on fixed deposits. These attractive interest rates discourage retail investment in corporate bonds as term deposits carry lesser risk. Thus, risk-averse retail investors prefer fixed deposits over debt and risk-seeking investors opt for equity. 

  Break-up of Term-Deposit & Inflation Rates of Asian Countries

Country Fixed deposit rate Headline Inflation
India 7.95 % 3.4 %
Malaysia 4.33 % 1.8 %
China 3.75 % 2.1 %
Thailand 2.8 % 1.1 %

Secondly, institutions which are the major players in the bond market shy away from investing in corporate bonds. The reason being that the secondary market is still underdeveloped, owing to the lack of demand and supply (causing market illiquidity).

Issues on the demand side:

  • The first barrier is a high SLR of 21.5% that, places restrictions on various players including banks, insurers, FPI and Provident funds. Also, only 15% of the funds is allowed to be invested in corporate bonds below AA rating. However, for mutual funds, there are no such restrictions.
  • Secondly, India lacks a well-functioning derivatives market. This hampers the ability of players to hedge credit and currency risks.
  • Lastly, a factor that banks will have to deal with is the ‘mark to market’ aspect. On the balance sheet, corporate bonds will be valued according to the market in contrast to the loans which won’t be valued similarly.

Issues on the supply side:

The institutional restrictions, preference for higher ratings (reason for higher interest rates) and the high cost of issuing (resulting in a high cost of capital, KD) has an adverse impact on number primary issues.

Conclusion: 

Analyzing the supply and demand aspects, we can say it is analogous to the chicken and egg situation. The above problems can be tackled by an effective implementation of the Insolvency and Bankruptcy Act which was passed on 5th May 2015. This can hasten the liquidation of distressed companies, thereby protecting the value of companies’ assets. It will also aid the asset reconstruction companies by attracting more participation into the NPA market. Furthermore, improved banking governance and adoption of Basel III norms mandating holding of high-quality liquid assets can also act as an elixir. Overall, these measures can improve the investors’ confidence in the corporate bond market.

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