Compiled By: Anuj Jain
Investment Culture in India
India as we know is well immersed in equity culture, with the debt market playing the less glamorous role of second fiddle. The fact is that corporate bonds market nowhere near equities in breadth, depth or innovation. The United States of America, for example, has one of the most active secondary markets in both government and corporate bonds. The trading volume in the
Why Bonds were not as attractive as equities?
- The interest rate scenario in India was regulated by RBI in such a way that the interest rates charged by the commercial banks for the project loans were relatively lower compared to other funds
- The Finance Ministry did not permit bond issues of companies that would exceed the debt-equity ratio of 2:1; the institutions used to extend loans that would result in a debt-equity of up to 3:1 in respect of highly capital- intensive projects
- Highly discouraging factor was the high level of stamp duty that the state governments levied on secondary market transactions in bonds
- Thus the corporate borrowers preferred to raise funds by approaching term lending institutions.
The Opportunity for Bonds
After the liberalization the protective status of DFI has been removed and no longer relevant in the deregulated financial system, which has cut off their access to low cost funds. This gaping hole in the finance industry has to be plugged and most natural step would be to encourage growth of an active bond market.
Who is into India’s Bond Market?
- In terms of the primary issues of debt instruments, Indian market is quite large. The government continues to be a large borrower unlike South Korea where the private sector is the main borrower. Currently almost 98% of the secondary market transactions in debt instruments relate to government securities, treasury bills and bonds of public sector companies
- Indian household has great appetite for debt instruments provided they are packaged properly. The main financial instruments popular with the households are bank deposits, provident funds, insurance, income-oriented mutual funds, and postal savings schemes. However, the share of fixed income instruments that could be traded in the secondary markets is negligible. The main reason for this is the absence of an active secondary market in debt instruments. Investors are not willing to invest in tradable instruments as they lack required liquidity.
The government on its part has been taking up several key steps to ensure that debt market comes to life.
- Statutory prescription of bank’s investment in government and other approved securities has been scaled down from peak level to 25%. Focus has shifted towards widening the customer base.
- Allowing the FIIs to invest in government securities, subject to certain limits. This should bring the desired liquidity and breadth to the market.
- Introduction of automated screen based trading system has been introduced in Government securities through a Negotiated dealing System (NDS).
- A risk free payments and settlement system in government securities through the Clearing Corporation of India Ltd. (CCIL) has been setup. This will remove the counter party risk involved in financial transactions.
Steps like these have to follow up with further reforms and policy changes which will ensure the wholeness and strength of Indian debt market.
The Present and Future
Indian debt market grew at an 18.02% per annum rate from 1999 to 2006 as per BIS data. At this pace and considering a 8.21% bottom up forecast for the world debt market,
Growth of debt market is a key ingredient to the continued success of Indian growth story. And barring any serious policy reversal by government in this direction, a vibrant Indian debt market is all set to become a reality.
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