CP market perks up as firms tap mutual funds to reduce costs

The issuance of commercial papers (CPs) has shot up in the past few months with many big companies tapping mutual funds (MFs), which are flush with funds. The firms wanted to reduce their working capital costs by raising money via CPs issued to these funds.

Last week, Reliance Petroleum raised Rs 500 crore by placing a 90-day tenure CP with a mutual fund at an interest rate of 4 per cent per annum, while Ashok Leyland raised Rs 50 crore at an interest rate of 3.85 per cent by placing a 90-day CP with another fund.

According to RBI data, which comes with a lag of two-weeks, CP issuance more than doubled in the fortnight ended April 15 this year with CPs worth Rs 2,918 crore being issued against Rs 1,363 crore a month earlier.

ICICI Prudential AMC’s Deputy Managing Director Nilesh Shah said the issuance of CPs picks up during times of ample liquidity when companies with a high credit-rating raise money from non-banking investors, like mutual funds and insurance companies, to lower their cost of capital. Other fund managers also stressed that liquidity is driving the CP market, and that it has never been so good in recent times.

“The system is flush with liquidity. CD rates (offered on certificates of deposits by banks) have come off, with the yield on a three-month paper down to 3.5 per cent. So, funds are finding commercial papers attractive, which offer a YTM (yield-to-maturity) of 4.5-5 per cent,” ING Investment Management’s Chief Investment Officer for fixed income, K Ramanathan, said.

Companies see a clear arbitrage opportunity, whereby they can borrow working capital at rates that are cheaper than what are offered by banks. But mutual funds – which saw their asset base soar 11.5 per cent, or by Rs 58,013 crore, in April 2009, especially in liquid and ultra short-term debt funds – need to optimise returns by deploying money in safe instruments.

Companies can raise working capital from mutual funds by issuing commercial papers at an interest rate of 8 per cent or below, while banks are charging 12.25 per cent (SBI’s PLR) for working capital loan. Clearly, companies see an arbitrage here, a source said.

According to RBI data, companies have issued CPs in March and April at a coupon rate of 6-6.4 per cent, though the names of these companies are not known. However, this route is available only to companies which can muster a good credit rating (P1).

“What’s different about this market is that mutual funds, which had turned risk-averse six months ago and were facing redemption pressures, are on Wednesday willing to invest,” said a chief financial officer with a leading steel-maker in Mumbai.

ICICI Prudential’s Shah termed it as a win-win situation for both companies as well as funds.

“While companies can bring down their interest burden, mutual funds can deploy short-term money in highly-rated debt of companies which have huge requirements. Liquid funds cannot invest in instruments of more than 91-day tenure,” he said.