Libor fall brings little relief to Indian firms

Although the London Interbank Offered Rate (Libor) for three-month dollar loans touched a historic low of 66 basis points today, Indian companies are unlikely to look overseas for funds any time soon.

“The credit spreads are still high,” explained Madan Menon, managing director and country head for global banking & markets at ABN Amro India.

Libor is the interest 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 credit spread. For loans to companies, banks usually factor in the credit default swaps (CDS) spread and the rating of the company. CDS is an instrument used by financial institutions to cover their credit risk.

 

While ratings for most Indian companies have remained unchanged, the CDS spreads have come off their earlier highs but are still higher than the corresponding period last year.
 

CDS SPREADS
Company	May 20,2008	High*	May 20,2009
State Bank of India	151.70	855.00	172.48
ICICI Bank	247.10	1794.00	269.55
Tata Motors	350.00	3165.70	836.00
Tata Steel	204.20	3056.31	781.13
Reliance Industries	142.50	1025.00	200.00
* For SBI, ICICI Bank and RIL, the highest level was reached on Oct. 27, 2008; for Tata Steel, the highest level was reached on April 9; Tata Motors saw the highs on April 7, 2009                             Source: Bloomberg

Till the second half of 2007, Indian companies were borrowing heavily from the overseas markets at favourable rates. However, the collapse of Lehman Brothers and the US government rescue of AIG prompted banks to raise interest rates, to cover the risk that their debtors wouldn’t be able to repay loans. In October 2008, the three-month dollar Libor touched 4.82 per cent.

During 2008-09, tighter borrowing norms and higher costs resulted in a 29.44 per cent fall in external commercial borrowings by Indian companies to $17.62 billion, compared with $24.97 bn in the previous financial year.

Most Indian companies have taken loans at floating Libor, which are reset on a quarterly, half-yearly or annual basis.

“Technically, Indian firms with existing overseas debt obligations will benefit, depending on Libor on the date when their loans come up for resetting,” said Partha Mukherjee, president, credit, at private sector lender, Axis Bank. “Although the premium over Libor is narrowing slightly, there is not enough money in the overseas market for Indian firms to consider it for funding,” he added.

“The credit spreads have contracted but are still quite high. In addition, India’s sovereign rating has been BBB-negative for the last six months, which has also affected pricing of loans. RBI regulations only permit External Commercial Borrowing for capital expenditure and not for working capital requirements, and capital expenditure by Indian corporates has come down,” said Nishikant Das, director, capital markets, at Standard Chartered Bank.

He says it has also become easier for Indian corporates to issue corporate bonds locally, due to the change in listing requirements.

According to Syed Zafar, director, Deutsche Bank India, the rupee’s fall has had a negative mark-to-market (present market value of securities acquired or invested) impact on Indian firms who have borrowed from abroad.

“The historically low levels of Libor have a positive impact on foreign debt obligations of Indian corporates, since most borrowings, other than convertibles, are advanced at Libor plus the spread, and low Libor levels will reduce the cost of borrowings. Although Libor is at all-time lows, the prevalent offshore credit spreads are still high, compared to spreads in the domestic markets. This, coupled with abundant domestic liquidity, has ensured lower pricing in the domestic capital markets,” Zafar said.