In bank bonds, SBI is god while rest must show performance

Ever since bailing out Yes Bank involved leaving investors of its perpetual bonds with nothing, they have been hammered
Lenders will have to hit the market for funds and most of them have a challenge in raising capital through bonds

MUMBAI: Banks are hunting capital and one way to raise this is hybrid additional Tier-1 bonds or ‘perps’ in market lingo. But ever since bailing out Yes Bank involved leaving investors of its perpetual bonds with nothing, perps have been hammered.

What is strange is that investors are distinguishing between two public sector banks when it comes to pricing perps, something unseen before.

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Bonds of Punjab National Bank, the second largest public sector lender, changed hands at a whopping 11.30% yield in the secondary market. In good times, that is a yield given by a risky high-yield bond. Bank of Baroda has fared better with its bonds trading at 8.10%.

In all this, State Bank of India’s perps have shone. Indeed, the country’s largest lender’s bonds were trading around 7.50% on Tuesday. Bond traders said that by virtue of size and ownership, SBI is seen as the safest with little threat to perpetual bond payouts.

One reason investors are differentiating between public sector banks is what happened to these bonds in Yes Bank’s case.

The first line of defence along with equity when a bank gets into trouble, this line crumbled for Yes Bank. In the lender’s bailout package, its perpetual bonds were written down. “After Yes Bank, investors are very wary of these bonds. They are looking beyond ratings into financial metrics of a bank,” said Ajay Manglunia, head of institutional fixed income at JM Financial.

A strike against PNB has been the cloud over its risk management cast by the fraud of Nirav Modi. In addition, PNB’s balance sheet is seen weak due to high bad loan ratios in comparison to other public sector peers.

Another reason is the very nature of these bonds.

Perps are hybrid debt instruments, allowed first time in 2012 by the Reserve Bank of India (RBI), that carry a fixed coupon like any other bond but do not have a fixed tenure. Given their equity-like tenure, perps are rated several notches below a regular bond of a bank.

Lenders with strong capital adequacy ratios will find easy buyers for their hybrid bonds should they choose to issue.

The coronavirus pandemic, and mergers have increased the need to raise capital for public sector banks. Their largest shareholder, the government, is hamstrung by fiscal constraints to infuse capital. Lenders will have to hit the market for funds and most of them have a challenge in raising capital through bonds. Even as debate continues on whether perpetual bonds should be abandoned as an instrument, normalcy is returning to the market slowly. But not for everyone.

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