State Bodies Forced To Cough Up Higher Coupons For Floats

State government corporations are being forced to offer higher coupons even in a falling interest rate scenario or else find their issues undersubscribed.

The latest example is Rs 350 crore Andhra Pradesh Power Finance Corporation issue that was able to mop up only around Rs 190 crore.

This is due to the fact that the coupon (11.40 per cent to 11.80 per cent) offered in the primary issue was 100-150 basis points less than the secondary market rates.

According to merchant bankers, investors, while investing in a primary issue use the secondary market yield as a reference point and demand a higher coupon than that.

 

But since the largest group of investors -- banks, non-banking finance companies and primary dealers (PDs) -- cannot invest in any securities in the secondary market which are not in dematerialised, there is effectively no pricing benchmark available.

All the papers issued earlier by state government bodies was in paper mode, which effectively rules out a vibrant market in them. Thus, they are forced to offer a higher coupon to potential investors or else risk a failed issue.

The Maharashtra State Road Development Corporation (MSRDC) was twice forced to extend the date of its Rs 20 crore issue as the secondary market rates were more attractive.

Investors refused to subscribe to the five-year bond scheme as the coupon was pegged at 11 per cent, while the secondary rate was close to 11.5 per cent. For that reason, the 10-year bond at 11.5 per cent was misaligned with the market yields.

State corporations have failed to comply with a recent Reserve Bank of India (RBI) directive which made it mandatory for issuers to dematerialise their paper already issued. Thus, their paper can only be bought by a handful of entities, notably provident funds, charitable trusts, and other investors which do not come under the RBI's jurisdiction.

Banks, primary dealers and non-banking finance companies (NBFCs) since October 31, 2001, are allowed to hold fresh issues of bonds, debentures and equities only in the demat form from October 31, 2001, following the RBI diktat in the credit policy in the first half of last fiscal.

Further, all outstanding investments in scrip form were to be converted into demat form by June 30, 2002.

According to the investment bankers, at present 80-90 per cent of the old holdings are in physical form. As banks, primary dealers and NBFCs are unable to invest in such paper, there is zero liquidity for existing state issuances.

Only a handful of non-banking entities are buying old issues and in the process are calling the shots in terms of the pricing. This is despite the fact that interest rates are bottoming out. A public sector bank wanted to sell its bonds in a public sector undertaking to its own provident fund trust, but was unable to do so as per the regulation.