RBI clears long-term funding for infra, affordable housing. Will retail investors bite?

Five days after the Union budget announcement on liberalising infrastructure financing by banks, the Reserve Bank of India (RBI) has come out with detailed guidelines on this.

As expected, the central bank, in line with Arun Jaitley’s budget announcements, allowed banks to issue long-term bonds to raise funds for infrastructure and affordable housing without maintaining statutory reserves such as CRR (cash reserve ratio) and SLR (statutory liquidity ratio).

The elimination of reserve requirements should make the raising of such funds cheaper by 1.5-2 percent, and if a significant chunk of this cost benefit is passed on to retail and institutional lenders, banks should be able to raise a lot of money. The doubt is about retail depositors, given the fact that such bonds are unsecured, and given their minimum tenure of seven years. Banks may have to offer buybacks to lure ordinary retail depositors.

The RBI’s guidelines say that such bond issuances will not be counted as part of banks’ normal liabilities (deposits) and hence will be exempted from CRR and SLR; loans given out to infrastructure companies will also be excluded while calculating banks’ priority sector lending (PSL) targets.

CRR is that portion of deposits banks need to park with the central bank on a fortnightly basis for no interest; SLR is the portion of funds they need to invest in government securities and PSL is mandatory lending by banks to agriculture, micro-loans and other weaker sections of the economy.

The RBI has effectively agreed to the 5/25 lending structure sought by banks under which banks can give loans for longer periods of up to 25 years and can be refinanced periodically, after a period of five years, depending on the progress of a project. The refinancing can be done by new or existing institutions.

Permitting banks to refinance infrastructure loans after a period of five years would, effectively, amount to restructuring of these loans, but without attracting higher provisioning like in the case of normal restructuring.

Besides, there is an implicit directive by the central bank to banks that they should fix realistic repayment schedules on the basis of cash flows with borrowers as it would go a long way to facilitate prompt repayment and thus improve the record of recovery in advances.

One key difference with Jaitley’s budget announcement and the RBI guidelines announced today (15 July) is that the central bank has included affordable housing in the purview of relaxations to long-term infra funding. Housing loans upto Rs50 lakh in six metropolitan cities and up to Rs 40 lakh in other centres have been included under this. That can significantly aid the budget housing segment.

The enthusiasm surrounding the budget announcement and the subsequent details announced by the central bank is logical, given the huge deficiency in infrastructure funding in India. About $1 trillion is the financing gap estimated for the development of roads, airports and power plants in Asia’s third largest economy.

Therefore, any effort to open up funding to infrastructure must be encouraged, especially in the backdrop of the inability of the banking sector to meet this requirement due to the growing asset-liability mismatch, which arise when banks are forced to raise short-term deposits and lend for the longer term.

Banks have so far lent a total of about Rs 8,57,300 crore to infrastructure, or about 15 percent of the total bank loans.

Of this, about Rs 60,000 crore worth of loans are being restructured under the corporate debt restructuring mechanism, which means that these projects are under stress and cash flows have been affected, resulting in repayment difficulties to the lenders.

Infrastructure is the biggest contributor to the restructured loan pile, constituting about 21 percent of the total.

This has affected the ability of banks to further lend to infra projects.Banks typically lend to infrastructure projects for tenures of 7-10 years at a rate that varies from 10-15 percent, depending on the nature of the projects.

Permitting banks to float long-term bonds and giving them the freedom to refinance performing loans periodically will certainly help increase funds availability to the sector, but the success of such bonds will depend on a few factors.

First, there is not much appetite from retail investors for long term-debt in India. Going by RBI guidelines, the proposed infrastructure bonds will have to be issued for a minimum period of seven years, failing which banks will be caught up in asset-liability mismatches. But banks can tackle this by luring retail investors with attractive returns.

According to analyst estimates, exemptions from CRR, SLR and PSL requirements would approximately mean a cost benefit of 150-200 basis points (bps) to banks. One bps is one hundredth of a percentage point.

Presently, banks are offering an average 9 percent return on fixed deposits of five-year tenure. If the bonds are issued at 1-1.5 percent above this rate, there can be takers for the paper.

Also, retail investors are unlikely to want to lock up funds for longer tenures at a fixed rate. According to analysts, the lion’s share of fixed deposits in banks is in the one to three-year bucket, while the participation in longer tenures is limited. Hence introducing some buyback option after a specific period will help to increase appetite from retail investors.

Second, long-term investors such as insurance companies and foreign funds can be brought in to invest in infrastructure projects. This can be done only if institutional investors can be convinced that the quality of the underlying asset is good and the end-use of funds raised through such funds is monitored closely. Simultaneously, there is a need to develop the corporate bond market.

“This process can be done simultaneously. Presently, the bond market is not really developed to accept long-tenure infra-bonds. This needs to be done in parallel,” said, Abizer Diwanji, head of financial services at EY India,

Monitoring the end-use of funds raised through infra-bonds is highly critical, said Naresh Makhijani, partner, financial services, at audit firm BSR and Co. “Many of the infrastructure projects in the country have turned bad or are being restructured. Investors will be interested to invest only in good quality assets,” Makhijani said.