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Bonds lose their shine for India Inc after lending rate cuts
January 9, 2017 / 2:38 AM / a year ago

Bonds lose their shine for India Inc after lending rate cuts

* Cuts in bank lending rates may draw more towards loans

By Krishna Merchant

SINGAPORE, Jan 9 (IFR) - Cuts in bank lending rates may spur some Indian companies to switch their fundraising back to loans, reversing a recent trend towards to the bond market, investment bankers say.

Following the surge in bank deposits triggered by demonetisation late last year, State Bank of India, the country’s largest government-owned lender in asset terms, cut its so-called marginal cost of funds-based lending rates (MCLR) by 90bp.

Others like Bank of Baroda, Punjab National Bank, Union Bank of India, Kotak Mahindra Bank and Dena Bank have followed with cuts of 45bp-90bp in their rates.

Indian lenders have received an estimated 14.9 trillion rupees ($219.3 billion) in deposits after Prime Minister Narendra Modi banned 500 and 1,000 rupee bank notes last November to curb black money.

The lending rates were cut after Modi, in an address to the nation on New Year’s Eve, urged banks to take initiatives to help the poor and the middle class.

“Sharp lending rate cuts will slow corporate bonds issues in the near term, especially from A+ and AA- rated borrowers,” said Jayen Shah, head of debt capital markets at IDFC Bank.

The spreads between short-tenored, lower-rated corporate paper and bank lending rates have compressed.

SBI’s MCLR is just 10bp above the yield on AA rated five-year corporate bonds, compared with 100bp in November and December, according to CLSA Research.

Even one-year A+ and AA- rated corporate bonds are yielding 7.4 percent and 8.15 percent, respectively, according to Thomson Reuters data, below SBI’s one-year MCLR of 8 percent.

The initial estimate is that spreads between bond yields and MCLR have narrowed 45bp-50bp since the banks started cutting lending rates, according to Shah.

As a result, lower-rated companies may find it cheaper to continue accessing the loan market versus the bond market.

“We believe corporate borrowers stand to benefit the most as they will look to refinance their loans at much lower yields than before,” said Kotak Institutional Equities in a research note dated January 3.

“We understand that many of these borrowers are the ones that looked to move to MCLR with shorter refinancing time-frames. Given their excessively leveraged position, we believe this segment will stand to benefit the most immediately,” reads the Kotak note.

Foreign brokerages feel the lending rate cuts will help banks regain market share from bonds.

In a January 3 note, CLSA said the cut in loan rates “will make banks competitive against bond markets and aid credit growth”.

Bond issuance has been growing in a range of 17 percent to 21 percent in the last three years, while credit growth has been hovering at around 8 to 10 percent, according to CLSA research.

State banks now expect credit growth to pick up from an all-time low.

During a press conference early last week, SBI chairman Arundhati Bhattacharya said the rate cut would boost credit growth 100bp-200bp in the current financial year to March 31.

NO SWITCH FOR TOP BORROWERS

However, some fixed-income analysts believe that high-rated companies will be reluctant to switch to bank loans.

“Public-sector enterprises and AAA rated companies will continue to approach the debt market”, as they are able to raise funds for longer tenors, such as 10-year at rates as low as 7.3 percent, which is still cheaper than the bank lending rates, said Ajay Manglunia, head of fixed income at Edelweiss Securities.

Others also doubt that credit growth will pick up while it remains difficult for Indian consumers to spend money.

“There is still uncertainty when the money will come back to the system,” said a rates strategist at a foreign bank. “Why would small and medium enterprises take loans when their businesses have been hurt?”

Currently, there are limits on individual withdrawals from bank ATMs, and a lot of small businesses that transact in cash have seen a slowdown following the notes ban.

India’s 10-year government yield was hovering at 6.4 percent last week, its lowest level in nearly a month, after the government cut the size of bond sales planned for January and February.

The reduction was due to the huge inflows to its so-called market stabilisation scheme (MSS), which sold securities late last year to absorb excessive liquidity. The government will sell bonds of 660 billion rupees, less than the 840 billion rupees budgeted previously.

“It’s a very dynamic environment and corporate bond yields are continually readjusting and, until the gap between bond yields and MCLR widens further, some issues may remain on hold,” said IDFC’s Shah. (Reporting by Krishna Merchant; editing by Daniel Stanton and Vincent Baby)

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