Decline in CDS spreads may push up ECB volumes

Receding fears about sovereign debt defaults in Greece, Spain and Portugal and a positive outlook on India’s economy have reduced credit default swap (CDS) spreads for Indian companies over the past few weeks. This will translate into lower borrowing costs.

As a result, overseas borrowing will become more attractive and external commercial borrowing (ECB) volumes are expected to swell. Due to this, companies outside the ‘AAA’ league are likely to opt for this route to raise funds.
 

LOSING SHEEN CDS Spreads (5-year secured loans)
Company	Feb 15, ‘10	Mar 15, ‘10
State Bank of India	149.40	131.87
ICICI Bank	203.80	177.21
Reliance Industries	155.40	133.05
Tata Motors	562.64	495.70
Tata Steel	557.60	451.42
Source: Bloomberg (spreads in basis points)

For top-rated companies such as Reliance Industries, the CDS spread on five-year secured debt fell to 133.05 basis points (bps) on March 15, after rising to 164.26 bps on February 9, according to Bloomberg data sourced from CMA New York. Others such as Tata Motors have seen an even sharper fall in five-year secured CDS spread to 451.42 bps on March 15, compared to 557.6 bps a month ago. The CDS spread reflects the cost of insuring an underlying security against default and is used to gauge an entity’s credit risk. “CDS spreads across the world have eased over the past few weeks as fears of default by Greece have been assuaged by the European Union. In India, they have eased even more because of the economy’s positive outlook,” said an investment banker from Citibank.

In fact, the cost of foreign currency-denominated loans for Indian companies has eased by as much as 150 bps over the last quarter due to an improvement in global economic outlook, according to investment bankers.

Top-rated Indian firms can now avail of a five-year loan at a spread of 200 bps over the London Interbank Offered Rate (Libor) compared to a spread of 350 bps in the previous quarter. Second-rung Indian companies, for whom dollar loans were out of the question six-eight months ago, can now expect spreads of around 300 bps over Libor.

Libor is the rate at which banks can borrow funds from each other in the London interbank market and is one of the most widely used benchmarks globally for short-term interest rates. Most loans in the overseas capital markets are priced at Libor plus a risk premium, known as the credit spread.

Investment bankers said a good show by Indian companies in the previous quarter, foreign investors’ belief in India growth story and a positive response to the Union Budget had pulled down credit costs for Indian companies. “The Budget was well-accepted by foreign investors and credit rating agencies made sanguine noises after it. The possibility of a downgrade of India’s sovereign rating in the coming months looks remote and that has also improved sentiment,” said an investment banker from Standard Chartered Bank.

Investment bankers said CDS spreads were yet to fully recover from the Greek debt crisis and were likely to fall further in coming weeks.

“The basic reason for the fall in CDS spreads and the consequent decrease in borrowing cost is that the sentiment about India has improved compared to the rest of the world. In fact, CDS spreads across Asia have improved relative to the US and Europe,” said Joel Akilan, chief India representative of Spanish bank BBVA.