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Companies issue more zero-coupon bonds to lure FIIs

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Primary issuances of have increased since the beginning of this year, as issuers target foreign investors who would want to save withholding tax and exhaust allocated investment limits before the end of this month.

According to data from the Clearing Corporation of India, 43 per cent of the total primary issuances in January were from the zero-coupon bonds category. The maturities of these instruments ranged between one and five years.

S P Prabhu, vice president (fixed income) at IDBI Fedral Life Insurance, said foreign institutional investors (FIIs) mostly preferred maturities up to two years and generally, issuances in the zero-coupon category are carried out at the shorter end of the curve.

The issuer of a zero-coupon bond does not pay interest during the maturity of the instrument. The interest is compounded and paid on maturity of the bond, which, according to the banking regulator, makes it a risky investment proposition for banks. The Reserve Bank of India feels credit risk in such investments is unrecognised till the maturity of the bonds. Hence, banks can invest in zero-coupon bonds, provided the issuer creates a sinking fund and keeps it in liquid investments or government securities.

Market participants said companies would have issued these bonds to attract funds from ,whose limits would lapse this month. Data from the equity markets regulator showed Rs 22,685 crore worth of the FII investment limit was unused as on February 15. The unused limit from December 31 was Rs 27,997 crore.

For the current financial year, the investment limit for FIIs in non-infrastructure corporate bonds is $20 billion, or Rs 99,777 crore. “Zero-coupon bonds don’t attract withholding tax, as there is no interest income. This makes it a lucrative investment for FIIs,” said Ajay Manglunia, senior vice-president, Edelweiss Securities.

Traders said most zero-coupon bonds were privately placed. In January, there was Rs 25,414 crore worth of private placements of corporate bonds, most of which came from non-banking financial companies.

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