RBI Announces Landmark Regulations to Bolster Currency, Fixed Income Markets

The Reserve Bank of India has announced a battery of measures aimed at bolstering participation in the fixed income and currency markets in India.

The central bank has accepted many of the recommendations of the Khan Committee to develop the corporate bond market, it said in a notification on Thursday. HR Khan, who retired in July this year, held the post of deputy governor of the RBI in charge of financial market regulation.

Among major measures for the corporate bond market, the RBI has decided to "enhance the aggregate limit of partial credit enhancement provided by banks, permit brokers in corporate bond repos, authorise the platform for repo in corporate bonds, and encourage credit supply for large borrowers through market mechanism."

The RBI has also decided to accept corporate bonds under the liquidity adjustment facility.

Let's look at some of the major decisions individually.

1. Enhancing the Partial Credit Enhancement Provided by Banks

In order to increase the attractiveness of corporate bonds, banks were allowed to underwrite a portion of the corporate bond by providing partial credit enhancement. This enhancement provided by banks would then improve the rating of the bonds issued.

The RBI has announced that banks can now provide a partial credit enhancement of up to 50 percent of the bond issue size, compared with the previous cap of 20 percent.

The higher underwriting will give investors more confidence to invest in bonds that would normally have been rated lower. The bank is compensated for the risk it is taking on with a fee. The RBI has, however, added a caveat that no single bank can provide partial credit enhancement of more than 20 percent of the bond issue size.

"This is positive for infrastructure companies as they can raise debt from pension and insurance companies more easily," brokerage firm Religare said in a note.

2. Issuance of Masala Bonds

In a move to improve overseas rupee bond markets, the RBI has proposed to permit banks to issue rupee-denominated bonds overseas.

Currently, rupee-denominated overseas bonds, or masala bonds, can be issued only by corporates and non-banking lenders like housing finance companies and large non-banking finance companies.

The instrument got a good deal of attention recently in July when Deepak Parekh-promoted Housing Development and Finance Corp Ltd. raised Rs 3,000 crore at a fixed, semi-annual coupon of 7.875 percent. The RBI has also proposed to allow banks to issue long-term bonds overseas for financing infrastructure and affordable housing.

3. Accepting Corporate Bonds Under Liquidity Adjustment Facility

The RBI is actively considering accepting corporate bonds as eligible collateral in its Liquidity Adjustment Facility window. The LAF is the window through which the RBI lends to banks by accepting government-issued securities as collateral.

The central bank uses the facility to control the amount of liquidity in the banking system, or in other words, the amount of cash in circulation. This reform would require an amendment to the RBI Act. Use of corporate bonds as collateral would make them more tradeable, said NS Venkatesh, executive director at Lakshmi Vilas Bank.

4. Easing Access to Foreign Exchange Market for Hedging

In a bid to increase participation in the domestic market for hedging foreign exchange, the central bank has allowed companies with exchange rate risk to undertake hedge transactions with simplified procedures up to a limit of $30 million at any given time. This is an attempt to divert companies away from the non-deliverable forwards market. 

"The exposed person will be free to access any market and use any of the permissible products at his discretion," the RBI said, adding that the measure is intended to improve liquidity and depth in the foreign exchange market. The central bank will revise the limit from time to time, according to the notification.

BloombergQuint