Debt scores over equity but bond market far from perfect

Bonds, especially tax-saving bonds, were a hot favourite among investors in 2011-12, as volatility in the Indian markets prevented retail participants from investing in equity IPOs.

Retail investors' flight for safety has helped corporate India raise Rs 35,610.7 crore through public issuance of debt which was 33 percent higher than funds mopped up through equity offerings during the year, said an Economic Times report today.

High bank deposit rates, a volatile, range-bound equity market, and uncertainties over ELSS (equity-linked savings scheme) due to the Direct Tax Code overhang are the factors that have led to a fall in inflows into equity funds last year.

Tax-free infrastructure bonds, which offer assured returns of 8 to 9.25 percent, turned out to be a major draw, as opposed to ELSS schemes.

Also mutual funds saw high net worth individuals (HNIs) pulling their money out of the equity schemes in 2011-12 due to the bearishness that prevailed.

Clearly, when the market goes down, high net worth investors (HNIs) shift money to safer havens like tax-free bonds and term deposits. These instruments bear a coupon rate exceeding 9-9.5 percent on an annualised basis, making them more attractive than equity funds.

With foreign investors shying away from investing in India, the finance ministry plans to create a $1 billion sub-limit for QFIs in corporate bonds and mutual fund schemes. As of now, foreign investors are allowed to invest $20 billion in the country's corporate bond market. With the latest ministry move, that ceiling will increase to $21 billion.

But tapping only institutional investors rather than retail investors is not going to reinforce investor confidence in the Indian markets as in the Indian investor understands equities better than markets.

According to Nilesh Shah, president, (corporate banking), Axis Bank, retail particpation in corporate bonds can be increased by making them an acceptable security in collateralized borrowing and lending obligation with reasonable margin, incentivising insurance companies to sell them, allowing PF trusts to invest in higher credit corporate bonds and allowing them to sell the shorter maturity corporate bonds in the market to create liquidity at the short end and appetite for investment at the long end.

It is clear that the government is banking on public debt to woo investors. But there is no denying that the corporate bond market in India is relatively underdeveloped and illiquid, which makes pricing of new credit instruments difficult.

Moreover, the corporate bond market is dominated by high-rated papers, which are few in number. According to ratings agency Crisil, not even 5 percent of the companies it rated in India carried the premier 'AAA' rating, which leaves limited options for foreign investors looking for papers with investment grades in the country.

Source: http://www.moneycontrol.com/news/mf-news/debt-scores-over-equitybond-market-farperfect_717954.html