Corporate Activity in India is Growing with Corporate Bonds despite Slowdown in Bank Credit

Recent trends in corporate debt markets in India indicate that corporate activity in the country has not slowed down despite a slowdown in the bank credit growth to 5.4% during FY17, as the growth in outstanding bonds and commercial paper resulted in an aggregate borrowing growth of 12.5% at the end of March 2017. The focus on development of debt markets in India has considerably increased and has garnered a lot of policy and regulatory attention as the Reserve Bank of India had observed that listed corporate debt formed only 2 per cent of GDP and the Government of India made an important observation; that even today most of the large issuers in the corporate debt market segment were “quasi-government” i.e. banks, public sector oil companies or government sponsored financial institutions. Of the rest, only a few notable names dominate the market.

Credit growth for banks is likely to remain muted at 7 to 8% during FY18, as capitalisation profile of public sector banks remains weak to support credit growth, investment demand is yet to display a revival and the debt markets continue to offer more attractive pricing for better rated corporate in comparison to banks’ benchmark lending rates. The buoyant debt capital market will ensure, aggregate credit – borrowings by corporate continues to grow at 12% during FY18. Thus year-on-year (YoY) growth of corporate bonds is expected to be 20-22% in FY18, benefitting from finer pricing in the debt capital markets. Moreover, the commercial paper (CP) issuances in Q4 FY2017 rose by 27% on a YoY basis and the CP outstanding recorded a 53% YoY increase to Rs 3.97 trillion at end-March 2017.

Corporate bond issues surged 20.2% during FY17 on a YoY basis to Rs 7.02 lakh crore as against 22.1% in FY2016; with 96% private placements that continue to account for the vast majority of bond issuances with the balance 4% through public issuance; as per SEBI data.

Corporate Debt is the capital raised by companies through debt instruments and consists of broadly two types – bank borrowings and bonds. Bank finance takes the form of project loans, syndicated loans, working capital, trade finance, etc. Corporate bonds are transferable debt instrument issued by a company to a broad base of investors including banks and other financial institutions. Bonds issued by private issuers: financial and non-financial corporate is private debt; and the debt issued by central and state governments, municipal authorities is the public debt. Some of the typical features of corporate bonds are:

• Corporate bonds are issued to the public, similar to equity instruments
• Are listed on stock exchanges and traded in secondary markets
• Are transferable
• Possess a broad base of issuers, ranging from small companies to conglomerates and multinationals; and investors, including retail participants; and
• Are under the additional purview of the regulators of the securities market other than the central bank or other banking supervisor.

Corporate bond markets are further defined as the segment of capital markets in the economy that deals with corporate bonds. There are three main pillars that make up the corporate bond market ecosystem:

• Institutions comprise of the securities market regulator, the banking regulator, the credit rating agencies, clearing houses, stock exchanges and the regulations and governance norms prescribed by these institutions.
• Participants comprise of the market players – investors on the demand side and issuers on the supply side. and
• Instruments indicate the form and features of securities issued in the corporate bond market.

Vibrant, deep and robust corporate bond markets are essential to enhance stability of financial system of a country, mitigate financial crises and support the credit needs of corporate sector, which is vital for the growth of an economy. Further, certain securities and derivatives, such as interest rate and currency derivatives and government securities play a significant role in ensuring its vibrancy and smooth functioning.

From the perspective of a developing economy, the corporate bond market in a country can substitute part of the bank loan market, and is potentially able to relieve the stressed banking system in a developing country of unbearable burden. Development of corporate debt markets needs strong institutional and regulatory support. There seven necessary developmental components for the effective functioning of vibrant bond markets:

• Disclosure and information system,
• Credit rating system,
• Effective bankruptcy laws,
• Market intermediaries,
• Institutional investors,
• Trading system and clearing platform and
• Depository system.

When bank lending and corporate debt is more balanced in an economy, the market gets an opportunity to assert itself, thereby providing a more effective hedge against systemic risk:

• Corporate debt markets inherently bring with them market discipline, through various mechanisms. Dissemination of timely, accurate and relevant information through a reliable financial reporting system is the first of such mechanisms.
• Transferable debt ensures the presence of a pool of professional financial analysts, to provide objective advice to investors.
• It results in a more effective management of a default or bankruptcy case.
• Finally, the effect of market forces governing corporate debt also rubs off on bank lending, as the banks can ill afford to engage in uncompetitive lending. The gradual and steady development of strong institutional and regulatory frameworks is necessary to sustain the momentum of corporate debt markets.

The Corporate debt market is primarily regulated by three institutions:

• Reserve Bank of India (RBI): the monetary authority in India and is therefore primarily interested in ensuring an adequate flow of credit in the economy, maintaining foreign currency market, and managing the twin objectives of economic development and price stability.
• Securities and Exchange Board of India (SEBI): SEBI’s outlook is more narrow- promotion, development and regulation of securities’ markets in India keeping the investors’ interests protected. The backbone of SEBI’s action plan has been the SEBI (Issue and Listing of Debt Securities) Regulations, 2008 in an attempt to reduce costs and improve transparency in the corporate debt market.
• Insurance Regulatory & Development Authority (IRDA): ensures the participation of insurance companies in the corporate debt setup.