Banks may turn to domestic bond market in H2FY26 for Tier-II bonds

After a lackluster first half in FY2026, banks are likely to turn to fresh Tier-II bonds to strengthen their capital base and to replace earlier issuances raised at a higher coupon rate

Banks, which tapped the domestic debt capital market aggressively last year (FY25) through infrastructure bonds as deposit growth was running behind loan growth, have had a lacklustre first six months in FY26, raising just over Rs 1,700 crore — mostly through Tier-II bonds. In the same period last year, banks, including state-owned and private sector banks had raised over Rs 87,000 crore.

 

Although the pipeline for the second half of the year looks slightly better than the first, banks — among the largest borrowers in the domestic debt capital market — are expected to raise funds primarily through Tier-II bonds. Many banks have already secured Board approvals, allowing them to tap the market when rates are most conducive.

 

“A host of banks — including State Bank of India, Canara Bank, Indian Overseas Bank, Punjab National Bank, Indian Bank, DCB Bank, Axis Bank, Bank of India, Bank of Baroda, Bank of Maharashtra and many others — have secured Board approvals to tap the bond market in the current fiscal year. While these approvals span various capital instruments, the immediate focus appears to be on Tier-2 bonds, with most lenders opting to wait for the right market window before launching issuances,” said a market participant.

 

Tier-II bonds are a type of debt instrument issued by banks to strengthen their capital base under Basel-III norms. They form part of a bank’s Tier-II capital, which is considered 'supplementary' capital ( because it is less secure than Tier-I capital like equity or perpetual bonds).

 

Experts pointed out that most of the funds raised by banks through Tier-II bonds will likely go towards replacing existing issuances that were raised at higher coupon rates as most banks are sitting on comfortable capital levels.  SBI recently exercised the call option on its 6.24 per cent Tier-II bonds, issued on September 21, 2020, for Rs 7,000 crore, and originally scheduled to mature in September 2030. The bank will redeem the bonds on September 20, 2025, adjusted for a holiday.

 

The bank has approval from the Board of directors to raise up to Rs 20,000 crore through debt capital in 2025-2026 (FY26). Out of this, additional Tier-I (AT1) is about Rs 5,000 crore, while Tier-II is about Rs 15,000 crore.

 

More banks are expected to follow suit by exercising the call option on their high-cost Tier-II bonds.

 

“Most banks are expected to lean on Tier-II capital issuances over AT-1 or infrastructure bonds during the rest of the fiscal year. The timing of these issues will likely hinge on market appetite, yield levels, and regulatory capital needs as the year progresses. However, banks with refinancing obligations on maturing borrowings are likely to access the market in line with their repayment schedules”, said Venkatakrishnan Srinivasan, founder & managing partner, Rockfort Fincap LLP.

 

Those seeking to strengthen their capital adequacy may consider raising funds via QIPs, AT-1 bonds, or Tier-II capital, depending on market appetite and cost considerations, he said, adding that Small Finance Banks (SFBs) have shown increasing activity in tapping Tier-II instruments since last year, using them to meet regulatory capital norms. This trend is expected to persist as SFBs expand their lending footprint and prepare for higher capital requirements in the coming years.