Some Indian banks sense an opportunity in the credit crisis that continues to rock global financial markets—with credit spreads widening, they can now buy back high-yield bonds at a lower price and turn a neat profit on the transaction, say analysts.
ICICI Bank Ltd, India’s second largest lender, has already kicked off this exercise and bought back $50 million (Rs200.5 crore) worth of bonds that were to mature in 2012. Bond dealers say other Indian banks will likely follow suit. However, public sector banks do not appear to be in a hurry to do so.
REPURCHASE: TIMING IT RIGHT? (Graphic)
“When bond prices are crashing, pushing up the yield, any good treasury manager should buy back the bonds and make money,” said a bond dealer who did not wish to be identified.
Investors are not averse to the idea of selling these bonds as they would otherwise need to book mark to market losses on them because their prices have fallen. Besides, such bonds are slowly turning illiquid with not too many buyers chasing them.
Marking to market is an accounting practice of valuing securities at the current market price and not at the price at which they were bought. The prices of these bonds have crashed in the past few months.
N.S. Venkatesh, managing director and chief executive officer at IDBI Gilts Ltd, a firm that buys and sells government bonds, says this is a “prudent” move by ICICI Bank and that it would serve as a confidence-building measure to the investors of such bonds.
According to Venkatesh, other large banks whose bonds are trading at a much higher yield in the secondary market should consider buying them back if they have money.
Prices of all bonds, issued by Indian banks in the past few years, have drastically come down, pushing up the yield. Prices and yields of bonds move in opposite directions. For example, Axis Bank Ltd had issued a 15-year bond at a coupon (or interest rate) of 7.25% in 2006. This paper is now trading at 8.5% with the spread over 10-year US treasury widening to 412.7 basis points. Similarly, a 16-year bond issued by public sector lender Bank of Baroda at a coupon of 6.625%, is currently trading at 8.63%, with a 359.72 basis points spread over the 10-year US treasury now.
Credit spread or spread is the difference in interest rates (or coupon rates) between government bonds or treasury securities and non-treasury securities that are similar except for their credit rating. Companies usually offer a higher return or coupon rate because their rating is lower than the government’s.
Widening of spreads is indicative of waning investor interest in such bonds.
Sudhir Dole, senior general manager and global head, international financial institutions, ICICI Bank, said, “With the international markets turning quite illiquid, we decided to repurchase some of our bonds to provide liquidity to our investors. Whether we do this again will depend on the market conditions and our overall plan.”
Investors in such issuances are the large international banks, pension funds and insurance companies.
Public sector banks are, however, still adopting a wait and watch policy. At least two treasury heads of public sector banks who did not wish to be identified said they are not considering any repurchase of their bonds at this point.
Partha Mukherjee, treasury head of Axis Bank, said the bank has hedged itself against any interest rate fluctuations by converting its fixed-rate bonds into floating-rate bonds.
“We are not buying back bonds. In fact, we may need to raise fresh money through bonds from the overseas market as we want to grow,” he added.
ICICI’s $50 million repurchase of bonds happened last week; the bonds are part of a series of bonds worth $2 billion that the bank had floated in 2007. The spreads on these bonds have widened from 150 basis points to 325 basis points over the 10-year US treasury paper between October and March. Consequently, the yield has risen from 6.625% to 8.5%. The bank has repurchased and extinguished these bonds that were issued by its Bahrain branch.
Under Indian laws, once bonds are repurchased or bought back from the market, they need to be extinguished.
By repurchasing and extinguishing this bond, the bank has booked profits and bond dealers say this is a case of “active treasury management” by the bank.
The treasury head of a foreign bank, who did not wish to be named, said ICICI Bank being one of the largest overseas issuers has a good understanding of the credit markets and “acted in time”.
Incidentally, ICICI Bank has so far reported around $264 million mark to market losses on account of its exposures to credit derivatives as well as an erosion in value of investments made by its subsidiaries in the UK and Canada.