Covered bonds help sub-AAA issuers raise funds

Mumbai: India’s bond market has had an unintended positive impact from Covid-19 — a surge in the issue of covered bonds, which offer better protection against defaults, by companies that do not enjoy the top rating.Investors in covered bonds have the right over a pool of assets held by the issuers, primarily non-bank lenders, in case of a default.The issue of these instruments has risen five-and-a-half times to Rs 2,200 crore last fiscal year from Rs 400 crore the year before, show data from local rating company ICRA, as the pandemic led to increased risk aversion among banks and fund managers.The trend continues with companies estimated to have issued about Rs 300 crore of these bonds since the start of this fiscal year in April.While the bondholders have security against default, these bonds have yielded as much as 12.75%, making the returns also attractive. 83828359“Outbreak of the pandemic has made investors risk-averse, getting good demand for covered bonds,” said Abhishek Dafria, vice president and group head-structured finance ratings, at ICRA. These papers are gaining momentum with non-triple-A companies increasingly tapping this route to raise funds.”“While investors get enough confidence to bet on those, a plain vanilla bond would cost much more than these instruments for nonbank entities,” he said.Issuers of these bonds create a pool of loan assets with the value exceeding the borrowed funds. If the borrower misses interest payments or defaults on repayments, the pool is assigned to a trust that will repay investors using the regular collections from the assets. Alternatively, the assets are assigned to a trust on the first day of issuance.Interest rates have ranged in the band of 8.90-12.75% for covered bonds. Lower-rated non-bank lenders sell these through two routes: non-convertible debentures and market-linked debentures.The covered bond helps the issuer get the “credit enhancement” tag in the rating, an additional comfort for investors who are seeking the safety of investment with the rising economic cost of the pandemic. This helps cut funding cost by an estimated 50-125 basis points that an issuer would have paid for non-covered bonds.About a dozen non-banking companies raised covered bonds, through two routes: non-convertible debentures and market-linked debentures.About three-fourths of them are rated in the single-A category and have sold the securities in the primary market with mutual funds, insurers and pension funds investing in them.“We are witnessing a trend of covered bond sales gaining momentum,” said Ajay Manglunia, managing director & head of institutional fixed income at JM Financial.“For the development of the bond market in India, covered bonds should play a role,” he said. “This instrument can lift creditworthiness benefitting a lot of lower-rated nonbanking companies to raise money at a reasonable price.”CapFloat Financial Services, rated A-minus with credit enhancement, offered the highest rate at 12.75% on 26-months paper. CreditAccess, rated AA-plus with credit enhancement, raised two-year funds offering 9%. Other issuers included Muthoot FinCorp, Five-Star Business Finance, Kogta Financial India and Ess Kay FinCorp,.

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