India’s equity market has seen unprecedented growth since 2021. The Indian stock market is one of the best-performing markets and ranks amongst the top five stock markets globally by market capitalization. However, the country’s bond market is not growing at its full potential. This article focuses on the need for a robust bond market in India, investigates the factors hindering the growth of India’s bond market, and provides some suggestions to address these roadblocks.
Need for a robust bond market
As per the International Monetary Fund (IMF), India is set to become the world’s third-largest economy by 2027. A robust, well-functioning, and liquid bond market is essential for India to achieve this feat. The outstanding bond market in India is currently valued at USD 2.59 trillion, with corporate bonds equivalent to USD 0.56 trillion. India’s corporate bond market is equivalent to 16 percent of the gross domestic product (GDP) of the country. This is extremely low compared to other Asian countries like Malaysia, South Korea, and China.
Indian companies primarily rely on banks to obtain funds for their businesses. The banking sector is at the core of India’s financial system and is critical for maintaining the country’s economic stability. A vibrant bond market will provide corporations with alternate sources to funding. If more corporations avail financing for their businesses through the bond market, the credit risks and pressures inherent to the banking sector will be spread across a broader class of investors. This would help in making the Indian financial system more secure and less prone to crises and downturns, which in turn will help India achieve its economic goals.
Banks face constraints in granting long-term loans to companies since their liabilities have a relatively shorter tenure. The bond market can help Indian corporations borrow longer-term funds at a lower cost. For example, investment in the infrastructure sector is crucial for economic growth. Infrastructure projects inherently have an asset-liability mismatch, which amongst other reasons resulted in banks accumulating non-performing assets in the past. Indian banks are now cautious about lending to infrastructure projects, prompting companies in this sector to explore alternative funding sources, for which the Indian debt market can emerge as a viable option.
Roadblocks and challenges
Challenges in recovery
An effective bankruptcy process is one of the key elements that fosters the development of a robust corporate market. An adequate insolvency framework governing formal procedures for financially distressed companies coupled with an efficient judicial system is crucial for establishing an efficient bankruptcy system in the country.
In 2015, the Bankruptcy Law Reforms Committee identified the lack of bondholders’ recovery rights in case of default as a key obstacle to the growth of India’s corporate bond market. Investments in Indian bond markets are deterred by challenges in India’s bankruptcy process including delay in the recovery process, poor recovery rates, low reliability of external credit rating in the Indian bond market, and absence of any public credit registry to provide information to assess ex-ante credit risk.
In the recent past, the Indian government and regulators have taken various steps to improve the legal framework for the recovery of bad debts. For example, the 2016 amendment of the Securitisation and Reconstruction of Financial Assets and Enforcement of Securities (SARFAESI) Act 2002, enabled secured bondholders to recover money from Indian corporates. Introduction of the Insolvency and Bankruptcy Code 2016 (IBC) also provided bondholders another means for recovery of debts.
It was envisaged that the introduction of IBC would help in strengthening India’s bond markets. However, holders of Indian bonds continue to face difficulty in recovering outstanding debts from the issuers of bonds. Recovery processes under the Indian legal framework are plagued with issues like
delay in the recovery of the outstanding debt and legal uncertainties regarding the insolvency of corporate groups.
Debt recovery tribunals (DRTs) were established under the Recovery of Debt Due to Banks and Financial Institutions Act, 1993 to handle matters related to the recovery of debts and SARFAESI. Unfortunately, DRTs have a large number of pending cases due to inadequate infrastructure and staffing, and slow disposal of cases.
The IBC was established to address the challenges faced by creditors in recovery of debt by the mechanism prescribed under SARFAESI and the Recovery of Debt Due to Banks and Financial Institutions Act. And yet, approximately 8 years after its enactment, creditors still face issues in recovering debts under the code. The primary challenge for creditors in recovery of debt is non-adherence to timelines prescribed under the IBC which is a result of adjournments, promoter objections, lack of capacity of the National Company Law Tribunals for handling the large number of cases and liquidation proceedings, and absence of a clear framework for cross border insolvency.
Its challenges like these that discourage investors from purchasing Indian bonds.
Market domination of high-end bonds
At present, the Indian debt market primarily consists of high-end bonds that have been assigned the top 3 rating categories (AAA, AA+, and AA) by credit rating institutions. As per the Reserve Bank of India (RBI), most of the issuances in the Indian bond market, in terms of value, during the financial year 2021- 22 were of bonds rated AAA.
Economies like the United States of America have robust bond markets with active participation in bonds of lower ratings, including junk bonds. In India, the investor base of the bond market is limited, and consists of domestic institutions like insurance companies, banks, pension funds, and mutual funds. Insurers and pension funds are not permitted to invest in instruments with a rating lower than AA. Coupled with the challenges faced by bondholders in recovering debts, this has led investors to prefer highly rated bonds since the probability of default is lower.
It has been observed that entities looking to issue lower-rated, unrated or a smaller number of bonds in developing countries, including India, face barriers in accessing the bond market, primarily due to high issuance costs and higher coupon rates demanded by investors.
Investors often shy away from bonds issued by early-stage, slow-growing, or limited-track-record companies due to limited understanding of associated risks.
The participation of retail investors, who could potentially invest in lower-rated bonds, in the market remains low. Contrary to other markets, participation of retail investors in debt oriented mutual funds also remains low and investors of debt mutual funds are largely institutional. A scenario that makes it difficult for issuers, like manufacturing firms and infrastructure projects, to secure high credit ratings in order to access the bond market.
Preference for private placements
Bonds can be issued by Indian corporations through a public issue or private placement. Private placement is a cost and time effective way of raising funds for Indian corporates since it does not require detailed compliances and can be structured per the needs of the corporations and investors. Additionally, during volatile market trends, private placement of bonds permit Indian corporations to finalize the price, yield, and mutually agree on structure terms based on specific interests .
On the other hand, the public issuance of bonds ensures transparency and efficiency of price discovery. This has led the Securities and Exchange Board of India (SEBI) to take steps to encourage corporations to opt for public placement of bonds. SEBI has simplified public debt issuance by cutting the public comment period on draft offer documents to one day for listed issuers and five days for others
Despite these initiatives, Indian corporates prefer to issue bonds through the private placement route rather than through public issuance. In the financial year 2023-24, bonds worth around INR 19,000 were issued through public placement, while bonds worth INR 838,000 crore were issued through private placement. The public issuance of corporate bonds in India dropped from 12% of the overall corporate bond issuances in 2014 to just 2% in 2024. A majority of private placement of corporate bonds results in issues regarding transparency, price discovery, and market efficiency. High costs, informational gaps, and low secondary market trading deter retail investors from the corporate bond market.
Secondary market – Low trading volumes
The market trading volume of Indian bonds in the secondary market is abysmally low. In the financial year 2024, the daily average secondary bond trading in India was around INR 5722 crores. However, trading volumes of bonds in India have been stagnant and remained between INR 5400 crores and INR 6000 crores since 2018. During the same period between the financial year 2018 to the financial year 2024, outstanding corporate bonds have grown by 72%.
Even though there has been an increase in corporate bond issuance it has not translated into a proportional increase in secondary market trading volumes. Suggesting that while more corporate bonds are issued and held, they are not actively traded in the secondary market. One of the primary reasons for the illiquid nature of corporate bonds is the “buy and hold” nature of investors and the predominance of private placement of corporate bonds.
Indian bond markets find it hard to attract a wider variety of investors. According to a survey by the Bank of International Settlements, most markets face an issue with the liquidity in the secondary debt market. So while this is not a problem unique to domestic debt markets, Indian regulators will have to take steps to encourage investor participation in the bond market.
Suggestion to develop a robust corporate bond market
Improving Recovery – Development of out-of-court restructuring frameworks
Components such as out-of-court restructuring frameworks in the insolvency framework can assist in addressing the challenges faced in the recovery of debt by bondholders. Countries like South Korea and the Philippines have developed standardized out-of-court restructuring processes. The South Korean out-of-court restructuring procedure aims at improving debt recovery procedures. The procedure enacted enforces shorter deadlines, permits debtor-in-possession structures and permits shareholders to repurchase converted equity.
At present, India does not have a robust statutory framework supporting out-of-court settlements. The RBI has enacted the Prudential Framework for Resolution of Stressed Assets (Framework) for the early recognition of stressed assets and to specify the inter-creditors’ rights and obligations. The Framework also provides the broad contours governing packages and pre-qualifications for implementing the effective resolution of stressed assets.
The inter-creditor agreement (ICA) entered by the creditors and the debtors under the Framework are purely contractual settlements binding only on the parties that are signatories to it and not qua the other stakeholders. They are enforceable as simpliciter contracts and provide no consequent special treatment or classification for party-creditors under law. While these ICAs bind parties contractually, they have neither statutory force nor the sanctity of a court or judicial authority approved resolution scheme.
The Insolvency and Bankruptcy Board of India, has constituted an expert committee to evaluate the inclusion of creditor led resolution approach in the fast-track corporate insolvency resolution process under the IBC. The hope is that the implementation of the creditor-led insolvency resolution process (CLRP) will help reduce the burden on the judicial system, guarantee prompt settlement, especially in
cases of defaults by major corporations, and promote economic growth by creating a climate that draws international investment.
A standardized out-of-court restructuring framework, such as the CLRP, and will enable a faster recovery of bad debt by bondholders by streamlining the resolution process.
Encouraging public issuance- Fast track issuance
In December 2023, the union budget for financial year 2023-24, the Indian Government encouraged financial regulators to simplify, ease and reduce cost of compliance under the existing regulations. Pursuant to this, SEBI released a consultation paper that proposed some suggestions to simplify the issuance of debentures, including a fast-track public issuance of debt securities. If implemented, the fast-track public issuance of Non-Convertible Debentures (NCDs) will help in addressing the issues pertaining to compliance, cost, and time taken for public issuance of NCDs. It will help encourage Indian corporate entities to opt for public issuance as the means of issuing NCDs.
Encouraging issuance of lower rated bonds-Development of complementary markets
Well-developed derivatives and repo markets help ensure liquidity in secondary bond markets. This also helps with hedging risks and managing fund positions. Derivative markets attract foreign investors to local currency corporate bonds by providing them with the means to hedge against currency risks associated with their investments. Simultaneously, instruments like interest rate derivatives and credit default swaps can help investors mitigate fluctuations in interest rates and manage default risks on their corporate bond investments. Financial regulators have taken various measures to encourage the development of the credit derivatives market in India.
Owing to the dominance of highly rated bonds in India, there is less need to manage credit risks. A developed credit derivatives market is essential to encourage the issuance of lower-rated bonds. While the repo market for government securities in India is highly liquid, the repo market for corporate bonds is still lagging. The development of a well-functioning corporate repos and derivatives market will help in the growth of the Indian bond market.
Liquidity of bond market-Revision of FPI norms
The RBI has set limits for foreign portfolio investments (FPI) in corporate bonds and issued operational guidelines. Additionally, two routes, the simple route, and the voluntary retention route are prescribed for FPI. The regulator has imposed strict norms on FPI in government and corporate debt to protect the Indian economy against any volatility in the exchange rate and local benchmark borrowing costs that may occur due to adverse global economic events that cause foreign investors to sell Indian bonds. For example, under the voluntary retention route, the RBI has restricted the allotment of more than 50% of each allotment by tap or auction to any foreign portfolio investor. Additionally, the RBI has also set a 3 year lock-in period for FPI debt investments. These restrictions deter the flow of FPI in the Indian bond market. Increased foreign investment is essential for the growth and liquidity of the Indian bond market, thus, there is a need to re-evaluate the present regulatory regime.
Market Liquidity: Unifying Markets
The government securities market underpins corporate bond development, with corporate bond pricing tied to sovereign yield curves and stable credit spreads. However, separate regulatory regimes for government and corporate bonds hinder seamless pricing transmission. Integrating these markets under a unified regulatory framework for trading, clearance, and settlement can enhance competition, efficiency, and liquidity while achieving economies of scale in India’s debt market.
Bharucha & Partners – Vivek Mishra and Palak Nangru
