Asian bond investors may still be licking their wounds from the recent turmoil in the global debt markets, but treasury officials at Indian banks are barely waiting for risk sentiment to recover.
Indian lenders such as ICICI and State Bank of India have already began sounding out investment banks about how to tackle a massive capital raising plan that will require them to sell a total of Rp5tn ($83.4bn) in tier one and tier two capital to meet Basel III guidelines by 2018, one year earlier than the global timetable calls for.
Even Indian central bank governor Suvvari Subbarao reckons it will be a challenge. The road to becoming Basel III-compliant will be a steep and bumpy one. And to top it off, Indian lenders will have to elbow aside other Asian banks as they compete for investor attention.
But after all the carnage in the bond markets, investors are taking an extremely bearish approach to bonds. They will undoubtedly push back at the first sign that an issuer’s finances are unconvincing.
Unfortunately, Indian bank balance sheets are saddled with debt. Public sector bank leverage ratios are looking close to the limit prescribed by Basel III guidelines, while a slowdown in economic growth has also increased net non-performing assets to 51% in the fiscal year ended March 2013.
This spells danger for investors who are already extremely wary of loss absorption features, which will require capital to either absorb losses through a conversion to equity or a write-down. More bad loans will require more provisions, chipping away at existing capital and increasing the chances of hitting the trigger that could wipe out a creditor’s investments.
And investors need to fully understand the fundamentals that could result in such a loss.
In the case of Indian banks, the financial regulator has stipulated that write-downs will be triggered when a bank’s core equity tier one falls below 6.125%, although there could be a reinstatement of coupon payments if the bank’s finances were to recover. But this could take years, and investors trying to recoup losses may not want to wait that long.
It doesn’t help that the strong government backing that has helped public sector banks garner attention from investors, especially in 2012, may not stay in place at current levels. Some bankers think this will not be a problem for now, but it certainly will be if governor Subbarao pushes ahead with plans to reduce government holdings in public sector banks to below 51% could help the country capitalise these lenders so that it could lower the fiscal deficit.
Issuers need to be willing to discuss these risks during roadshows — and bankers must advise them to do so. Keeping investors onside — and compensating them appropriately — should see Indian banks sell their bonds and meet their Basel targets with little fuss. But one problematic deal could scupper the chances of the rest of the Indian sub debt pipeline.