In the Union Budget for FY22, the government announced an allocation of Rs 20,000 crore as equity capital for the recapitalisation of PSBs.
In a late evening circular on Monday, the Securities and Exchange Board of India (Sebi) eased valuation rule pertaining to perpetual bonds.
The government’s recapitalisation burden is set to increase in the event that public sector banks (PSBs) should fail to replace their outstanding additional tier-I (AT-I) bonds where call options fall due next year, Icra said in a note on Wednesday.
In a circular issued on March 10, the Securities and Exchange Board of India (Sebi) stated revised norms for the valuation of perpetual bonds issued by various classes of issuers. The markets are concerned that these norms could reduce the appetite of mutual funds for fresh investments in Basel III-compliant bonds of banks. While the government has written to the capital markets regulator seeking a review of the new valuation criteria, there has been no word from Sebi on it yet.
In Icra’s outlook for the banking sector for FY2022, it had estimated the tier-I capital requirement for PSBs at Rs 43,000 crore for FY22, of which Rs 23,000 crore would be on account of call options falling due on the AT-I bonds of PSBs. In the Union Budget for FY22, the government announced an allocation of Rs 20,000 crore as equity capital for the recapitalisation of PSBs.
“If the market for AT-I bonds remains dislocated for a longer period… and the PSBs are unable to replace the existing AT-Is with fresh issuances, this would mean that the PSBs could stare at a capital shortfall based on the budgeted capital,” Icra said. The rating agency expects the government to provide requisite support to the PSBs to meet regulatory capital requirements, which means that the recapitalisation burden on the government could increase, or the PSBs could curtail credit growth amid uncertainty on capital availability.
“As per Icra’s estimates based on the industry data, mutual funds hold 30% of the tier-I bonds outstanding and 14% of the tier-II bonds outstanding in February 2021,” the rating agency said. As the incremental demand from mutual funds declines for the tier-I and tier-II bonds of banks, the issuance costs for banks could rise, making it costlier for them to raise debt capital. The yields have already seen an upward trend since the circular was issued with an increase in traded volumes reflecting the selling in these instruments.
“With constraints on investment limits, the funds may even become more selective in taking fresh exposure, which could mean that certain banks,despite a higher issuance cost in relation to their credit profile, may find it difficult to raise capital through these instruments in the desired quantum,” Icra said.