Mumbai: Investors’ risk perception of Indian companies has worsened, threatening to raise their borrowing costs, even as the government eases access to overseas funds for infrastructure firms.
Widening spreads in the market for credit default swaps, or CDS, show the deteriorating perception about the ability of Indian entities to repay debt.
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A CDS is a financial instrument based on corporate bonds and loans used to speculate on the borrower’s ability to pay back debt and hedge against defaults. Under a CDS contract, a debt holder makes periodic payments to an entity that agrees to take the hit in the event of a default by the borrower.
Spreads on the CDS of Tata Motors Ltd, India’s biggest automobile producer and the worst affected among all Indian firms, widened by 557.7 basis points since the start of 2008 to 760 basis points as of 19 September, according to Bloomberg data. One basis point is one-hundredth of a percentage point.
During the same period, spreads on the CDS of ICICI Bank Ltd, the country’s second biggest bank, have risen by 204.6 basis points to 381.7 basis points and that on Reliance Communications Ltd, the second largest mobile phone firm, by 357.5 points to 570 basis points.
The other Indian firms in the CDS market — Bank of India, Exim Bank, IDBI Bank Ltd and Reliance Industries Ltd—are relatively less affected.
CDS is the most popular form of a credit derivative, with an estimated market size of $62 trillion, three times the size of the US equities market. Credit spreads are the difference in interest rates between government bonds or treasury securities and corporate bonds. Companies usually offer a higher return than governments because they do not have sovereign backing.
“The widening of spread indicates higher risk perception,” said Naresh Takkar, managing director of rating agency Icra Ltd. “But this is not unique to India. All companies in the world have been affected by the global crisis and the spreads have widened.”
That may be true, but in relative terms Indian firms seem to have been hit harder. Spreads on CDS from the other so-called Bric (Brazil, Russia, India and China) economies have not widened as much as those of Indian firms even though some of them, particularly Brazilian and Russian, have similar credit ratings.
The only exception is Bank of Moscow, which has seen the spreads over its CDS widening by 429.9 basis points to 787.5 points since January.
Spreads on CDS of borrowers from other countries such as Hong Kong, Indonesia, Malaysia, the Philippines and Singapore have also been less affected.
“The spreads on CDS indicate outlook on the future performance of a company and a possible indication on ratings,” said J. Moses Harding, executive vice-president and head (wholesale banking group), IndusInd Bank Ltd.
India is perceived as a riskier play than its Asian peers for overseas investors, although the country has been relatively insulated from the extraordinary global financial turmoil that has claimed some famed Wall Street banks as victims and forced the US to propose a $700 billion relief package.
“This is not very surprising as India’s sovereign rating is currently in the low investment grade category,” said Rajesh Mokashi, executive director of Credit Analysis and Research Ltd.
According to him, the situation does not reflect the fundamentals of the Indian companies and one should not read too much into it.
“The high level of panic in these markets has skewed the pricing of such CDS. When the situation settles down and people get a better understanding of the fact that the probability of default by Indian companies is extremely low, the spreads will narrow,” he said.
India on Monday relaxed the norms for external commercial borrowings, or ECBs, by infrastructure firms and allowed them to raise five times more money — or $500 million — than what they were earlier allowed.
It also allowed firms to sell seven-year paper at a spread of 450 basis points over the London interbank offered rate, or Libor, an international benchmark. That’s an increase of 100 basis points from what they were allowed to pay earlier.
That may encourage Indian firms to tap the overseas market for funds, but they will have to pay more because of the growing risk perception.
“Given the current global market conditions, we do not expect a surge in flows,” said Rohini Malkani, economist at Citigroup Inc.’s Indian unit, in her latest research report.