Informist, Thursday, Oct 26, 2023
By Aaryan Khanna and Nishat Anjum
NEW DELHI – States have raised 673.84 bln rupees through the sale of bonds so far this month, exceeding the indicative calendar for Oct-Dec by 13.7%. This has piqued the bond market's interest, coming as it does after several quarters of lower supply.
In the first half of the current financial year that started April, states borrowed only 82.6% of their indicated borrowing of 4.37 trln rupees. In 2022-23 (Apr-Mar), their borrowing was only 76.8% of the target amount. With the spurt in borrowing now, analysts and market participants expect that the trend of lower-than-target state borrowing is a thing of the past.
"They'll borrow at least the calendar amount this quarter, and I wouldn't be surprised if there's more than that as well," a dealer at a foreign bank said. "There are a few weeks with less than 200 bln rupees worth of borrowing, they could add some supply to those and move to about 2.5 trln rupees or more."
In Oct-Dec, states plan to issue 2.37 trln rupees worth of bonds, nearly identical to their planned borrowing for Jul-Sep. But state bond issuance only totalled 1.90 trln rupees in the previous quarter, or about 80% of the indicated amount.
At the current pace of borrowing since the start of October, state bond supply in the December quarter would eclipse that by about 800 bln rupees, and even if the supply moderates to the figure in the calendar, investors will have to mop up another 470 bln rupees worth of state bonds.
"For the last few quarters, states have borrowed lower than the indicated calendar. However, going forward we expect their actual borrowing to be much closer to the calendar," said Churchil Bhatt, executive vice-president at Kotak Mahindra Life Insurance Co Ltd.
States typically leave most of their borrowing to the second half of the year as it matches their requirements, and issue a calendar for their indicative borrowing every quarter. For the full year, market participants expect state bond supply will total 8.5-9.0 trln rupees, with only 3.61 trln rupees borrowed in Apr-Sep.
Last year, states raised 7.64 trln rupees through bonds, of which 64% was borrowed in the second half of the fiscal year – nearly 40% in the Jan-Mar quarter alone. Still, they had undershot the indicative calendar by about a quarter of the total.
"The undershooting of the state borrowing is a largely (COVID-19) pandemic phenomenon, back when the Centre had taken up the brunt of the expenditure, including capex (capital expenditure)," said Abhishek Upadhyay, senior economist at ICICI Securities Primary Dealership. "An overshoot on the calendar is unlikely because most states will remain within their budgeted targets, but any undershoot will be smaller now."
So far in the current financial year, the 4.10-trln-rupee state bond issuance has been 22.7% higher than the year-ago period, while remaining well under the indicative borrowing calendar. Gross supply has expanded, pushed up by a heavy redemption pattern in 2023-24 for states, and states have been pushed towards the bond market to fund their spend in the absence of a key resource from last year, which is the GST compensation cess.
When the goods and services tax regime was introduced in 2017, the Centre had promised to protect 14% revenue growth for states for five years. That dispensation ended in June last year. In July this year, Kerala Finance Minister K. N. Balagopal had estimated the hit to his state's exchequer at 100-300 bln rupees.
"State borrowings have been higher on year because of higher redemptions across the full year, and states don't have recourse to the GST compensation cess any more," said Gaura Sen Gupta, economist at IDFC FIRST Bank. "The capex cycle has also started on a strong footing in first half of the fiscal year."
The state bond redemptions are only going to increase, with 1.48 trln rupees worth of bonds slated to mature in Oct-Mar, compared with those worth 1.19 trln rupees in Apr-Sep. Moreover, according to state capex data for Apr-Aug, Sen Gupta said spending under the head has jumped by 35.3% on year for the 17 largest states that make up a vast majority of the bond issuers and issuance.
Last week, a finance ministry official had told Informist that reduction of investments by state governments in 14-day treasury bills suggested a pick-up in their spending.
Still, the gross fiscal deficit of states as a whole is likely to remain within the 3.0% of GDP cap prescribed by the Centre, economists said. ICICI Securities Primary Dealership pegged it at 2.5-3.0%, while IDFC FIRST Bank said it would match the 2022-23 print of 2.8%.
MARKET IMPACT
Even as it looks like states are gearing up to borrow heavily in the December quarter, its impact on bond yields may be limited. With the supply of state loans increasing, the spreads between the two may widen, but not by a large margin. Even if states do not stick to the usual 80-82% of the notified amount, the spread is seen widening only up to 5-8 basis points.
As seen in the previous quarter, even with higher supply in some weeks, the spreads remained largely the same, as the higher supply was taken up by insurers and pension funds. Gilt market dealers are also of the view that states may try to load the Oct-Dec quarter and sit back in Jan-Mar, which may keep the second half of the financial year largely balanced.
"…there would be limited downside in the actual SGS (state government security) issuance in Oct-Dec relative to the indicated amount," said Aditi Nayar, chief economist at ICRA Ltd. "This is based on our assessment that the government may not release an additional instalment of tax devolution in Oct-Dec, with adjustments, if any, to be made in Jan-Mar."
Still, ICRA projects a full-year state bond supply of 9.5 trln rupees, higher than many others in the market.
Unlike the glee that spread in the market towards September-end, after successful borrowing in Apr-Sep, the market now sits in fear of unknown supply pressures. Adding to this would also be the fear of open market operations sales auction, which would weigh on the gilts. This, paired with states stepping up the borrowing quantum, may have a marginal impact on pushing up yields in the near term.
That may be welcomed by some participants. These yields on state bonds look lucrative for investors' non-trading portfolios. Some money managers would still be happy to lock-in higher yields on these quasi-sovereign bonds, even if it is just 30 basis points.
"Long-term state bonds provide duration and a slight yield pickup over G-sec," Bhatt said. "Long-tenor state bond spreads over corresponding G-Sec have remained relatively unattractive for the most part of this year owing to demand for higher duration."
In the backdrop of state-owned insurers bidding aggressively in the state-loans auction in the September quarter, the market widely believed that the trend was likely to continue in the current quarter as well. And it may have a ripple effect on other insurance companies picking up long-term state bonds for their respective portfolios. End
Informist Media Tel +91 (11) 4220-1000
Send comments to feedback@informistmedia.com
© Informist Media Pvt. Ltd. 2023. All rights reserved.