Banking regulator allows retail participation in state govt bonds in bid to broaden investor base3 min read . Updated: 06 Jun 2019, 10:31 PM IST
- Das said state development loans are not risky at all because there is an implicit sovereign guarantee in them
- States raise money from the market through SDLs, which are dated securities issued through auctions similar to those issued by the central government
MUMBAI : The Reserve Bank of India (RBI) on Thursday said it will allow retail participation in auctions of state development loans (SDL) in consultation with state governments.
States raise money from the market through SDLs, which are dated securities issued through auctions similar to those issued by the central government. Interest on SDLs is paid every six months and the principal is repaid on the maturity date. SDLs are backed by the sovereign and acknowledge the government’s debt obligation.
“It has been decided to also allow the specified stock exchanges to act as aggregators/facilitators to aggregate the bids of their stockbrokers, other retail participants and submit a single consolidated bid under the non-competitive segment of the primary auctions of state development loans (SDLs)," said RBI.
The central bank said on Thursday that it has been its endeavour to increase retail participation in government securities and has permitted specified stock exchanges to act as aggregators of retail participants’ bid through a web-based application provided to their clientele. RBI said it now wants to emulate that process for state development loans as well.
RBI governor Shaktikanta Das said that SDLs are not risky at all because there is an implicit sovereign guarantee in them. “Firstly, the state governments are sub-sovereign and secondly there is an implicit debit mechanism which RBI operates on the due date of repayment, RBI automatically debits the state government account and makes the repayment. So, therefore, they cannot be considered as risky and this position has also been accepted by the Bank for International Settlements," said Das.
Typically, foreign investors are not as interested in SDLs as they are in government securities. Speaking on the reluctance of foreign portfolio investors (FPIs), B.P. Kanungo, deputy governor, RBI, said that there is a need for the states to continuously engage with the FPIs and the others as compared to the GSec, FPI investments in state development loans is less.
“There is a need for the state governments to engage with them. Another aspect which the market has brought to our notice is the lack of information regarding the state of affairs of state government finances," said Kanungo, adding allowing retail investors will broaden the investor base.
Meanwhile, deputy governor Viral Acharya said that FPIs do not invest in SDLs because they are illiquid; they need an exit mechanism. “I think it is not a credit risk problem, but a liquidity risk problem. We are, therefore, broadening the investor base which should potentially improve the liquidity of the SDLs," said Acharya. Experts see this move as positive for retail investors as they would be able to get a better return on their investments.
Ajay Manglunia, managing director and head, institutional fixed income, JM Financial Products Ltd, said that retail investors will get better returns from SDLs, at least 50-70 basis points (bps) more than GSec of the same tenure. He added that states like Karnataka, Maharashtra and Gujarat which borrow more judiciously than others are likely to see more demand from retail participants. “Since last year, SDL auctions have become more frequent, from bi-weekly earlier to weekly now. At present, there is not much difference in pricing of various SDLs but with more participation, states with better financial position will be preferred and see better pricing," said Manglunia.
The central bank also said that its foreign exchange trading platform for retail participants has now been developed by the Clearing Corporation of India Ltd and is being tested by users. The platform will be available to users for transactions beginning early August, RBI said.
In October 2017, RBI had issued a discussion paper proposing to set up a foreign exchange trading platform for retail participants to provide customers with access to an electronic trading platform through an internet-based application on which they can purchase or sell foreign currency at market clearing prices.
“By unifying the existing fragmented market microstructure, this platform would provide transparency of pricing and promote competition among market-makers leading to better pricing for all customers, regardless of order size," said RBI.