Rating downgrades slip to 15-month low in Jan as incremental risks decline

Market participants say full recovery from credit risks can take more time

The flurry of downgrades seen in recent months has taken a pause in January, with value of downgraded bond papers slipping to lowest levels in 15 months. However, debt fund managers and rating analysts say the credit markets are not yet out of woods with non-bank financial companies (NBFCs) and other sectors still showing signs of stress.

"Stress till remains in some lower-rated NBFCs and housing finance companies, which could be vulnerable to further rating downgrades," said Arvind Subramanian, fund manager at IDFC MF.  

"Last one to one-and-a-half years have been bad in terms of downgrades. However, it is still difficult to say that the stress in system is behind us. There is still apprehension with non-performing assets of some of the NBFCs seeing a rise," said a fund manager, requesting anonymity.

In January, the number of bond issuances downgraded by rating agencies stood at 35, valued at Rs 17,129 crore, showed data from the Securities and Exchange Board of India. This is 80 per cent lower than the value of issuances of downgrade in previous months.

Rating officials say the drop in downgrades can be attributed to the incremental stress coming down in the system. "Financial entities with larger borrowings have already seen sharp rating actions. So, incremental risks of downgrade has come down in the system. However, the full recovery could take some more time. Further, supply chain disruptions from external factors such as Coronavirus can also impact credit quality of corporates," said a senior official at a rating agency, requesting anonymity.

The downgrade tally so far has been one of the worse in recent financial years due to the risk-aversion set off by the IL&FS crisis. For the current financial year 2019-2020, the quantum of rating downgrades stand at Rs 14 trillion, which is 60 per cent higher than previous financial year.

In February, rating agencies have downgraded corporate bonds of Vodafone Idea, which is facing pressures with over Rs 50,000 crore of dues pertaining to adjusted gross revenue. At the end of March 31, 2019, the telecom player had outstanding borrowings of Rs 10,352 crore through non-convertible debentures (NCDs), showed company's annual report.

Rating agencies have also downgraded Yes Bank from triple B to triple B-minus.

However, fund managers are of the view that the upside is that the large part of stress is factored in the pricing of the bonds.

"The stressed companies are already getting valued at steep yields with the market is factoring in the downgrades ahead of the actual event," said a fund manager.

Further, market participants say there is funding available for better-quality NBFCs and other bond issuers, as cost of funds has reduced after Reserve Bank of India's long-term repo operations and overall liquidity in the system improving. 

Even though the trend of outflows from credit risk funds has not yet reversed, the pace of outflows is coming off. "Savvy high-networth investors are showing appetite for credit risk funds, as they feel that there could be opportunities as the sentiments start to improve," said chief executive of a fund house.

In January, investors pulled out Rs 1,214 crore from credit risk funds, which was significantly lower than the peak outflows the category has seen during this financial year. In May, the category saw close to Rs 4,000 crore of outflows.