The concern over the market regulator’s guidelines on valuing perpetual bonds, such as additional tier-1 securities issued by banks, as 100-year bonds has its roots in the YES Bank crisis, and the Reserve Bank of India’s (RBI’s) action in that case. Investors lost heavily when the bank, prompted by the RBI, wrote off AT1 bonds worth Rs 8,400 crore, thereby putting them in a higher-risk category than even equities. The Securities and Exchange Board of India (Sebi) has rightly identified a serious problem with the valuation of these complex instruments and its suggestion will bring in more transparency to the process. The blame for the mess must go to rating agencies and mutual funds that tended to value perpetual bonds as five-year bonds. This was patently wrong practice because it gave the former higher value than they deserved. The valuation was based on the bonds’ call dates — the date at which the issuer could make an offer to call back the bonds and pay off the investors. It was not incumbent on the bank issuing them to do so, but these bonds were valued as if it were. In any case, perpetual bonds are supposed to be without a put option; so it is not clear on what basis rating agencies treated them as five-year bonds.
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