Chennai, Nov 4:

 Masala bonds offer Indian corporates an additional funding source though the route will be initially restricted to big players with a good name recall or better quality issuers, said Fitch Ratings on Wednesday.

The rupee-denominated bonds, which are often called “Masala Bonds”, were proposed in the first bi-monthly monetary policy for 2015-16. The bonds, with a minimum tenure of five years, call for their redemption in rupees.

“There shall be no restriction on the end use of funds except a small negative list,” RBI Governor Raghuram Rajan said in the fourth bi-monthly monetary policy statement for 2015-16.

In a statement, Fitch Ratings said the opening of a Masala bond market, where Indian companies issue bonds offshore in rupee terms, provides an opportunity for some larger issuers to diversify funding sources without taking currency risks.

According to Fitch Ratings, in its early stages of development, the Masala bond market will be restrictd to better-qulity issuers or ones with some degree of corporate brand equity in local markets.

In September this year, the Reserve Bank of India (RBI) relaxed rules allowing Indian corporates to issue bonds denominated in local currency in overseas markets.

“This follows a 2014 decision to allow the Asian Development Bank and International Financial Corporation to issue rupee-denominated bonds in the international market,” Fitch Ratings said.

There have been no Masala bond issues by Indian firms yet.

The new guidelines allow for a wide range of potential borrowers, including non-bank financial institutions, and other corporates which were not permitted to issue offshore under the earlier external commercial borrowing (ECB) framework.

Masala bonds will be required to have a minimum maturity of five years, and there is a $750 million per year limit for borrowers – though a firm can exceed this limit with the RBI’s approval.

According to Fitch Ratings, Masala bond issuers were likely to have to pay more than that if they issued these in the domestic market.

As Masala bonds are denominated in rupees, foreign investors will be taking currency risk. Issuers will most likely also have to pay a premium for the limited offshore liquidity in rupee.

As such, the main incentive for Indian companies to issue Masala bonds is likely to be for the diversification of funding sources, as opposed to price.

Non-bank financial institutions, depending heavily on domestic banks for funding, could particularly benefit from the new market.

However, the scope for development of the Masala bond market is likely to be limited in the near term.

According to Fitch Ratings, in the early stages only better-quality firms at investment grade – state-owned enterprises and large non-bank financial institutions – will be in a position to successfully issue.

Notably, foreign-investor interest has yet to be tested, and will be affected by sentiment regarding the rupee/US dollar exchange rate and other macro factors.

The development of the market beyond a select group of large, higher-quality issuers could take time and will be dependent on international liquidity, domestic macroeconomic variables and foreign-investor sentiment.(IANS)