Defaulted Bonds, Made in India, Now On Sale to Global Pioneers

  • RBI says overseas investors can buy distressed Indian notes
  • India firms with $36 billion in debt downgraded in six months

For sale: distressed Indian bonds. Overseas buyers must have stomach for an illiquid market and legal delays.

That’s the upshot of a Nov. 26 directive from the Reserve Bank of India, which opened the door for foreign investors to buy defaulted bonds from the nation’s lenders by clarifying the purchase rules. The move offers another route to banks for offloading their stressed assets, which have soared to 11.1 percent of advances and are rising faster than the pace of lending.

“This liberalization is a small step in the right direction,” said Mikhail Filimonov, managing partner of New York-based hedge fund OIM Capital LLC. “However, foreigners are unlikely to participate until the government takes giant steps to strengthen its regulatory and judicial system to international standards.”

Prime Minister Narendra Modi is courting foreigners as he seeks to revive lending growth that’s near the slowest pace in 20 years amid anxiety over delinquencies. Distressed funds will likely have a wide and growing range of options after Standard & Poor’s local affiliate Crisil Ratings downgraded 460 companies holding 2.4 trillion rupees ($36 billion) of debt in the six months through September. Of those firms, 44 percent were placed in ‘default’.

The RBI is allowing local lenders to sell defaulted notes to foreign buyers for the first time, spokeswoman Alpana Killawala said by phone on Thursday. Until the rule change, the ban wasn’t explicit in writing, she said.

Overseas investors have reason to be wary of local debt. Some got burned in September when car parts maker Amtek Auto Ltd. defaulted on 8 billion rupees of bonds, handing losses to holders including two onshore funds managed by JPMorgan Chase & Co. The U.S. bank tried to stem redemptions after investors demanded their money back, highlighting the difficulty of selling bonds to quickly raise cash in the inactive local market.

Amtek sold the notes at 100 percent of face value in August 2010. They were downgraded to C from A+ in August this year, resulting in about a 25 percent reduction in value, JPMorgan said in September.

Indian banks are currently able to restructure bad assets themselves, trade them with other lenders or sell them to so-called asset reconstruction companies. They can also resort to debt recovery tribunals for a resolution, in a nation with no unified bankruptcy law.

“As the corporate bond market is illiquid, there are no buyers for downgraded papers,’’ said Murthy Nagarajan, head of fixed income in Mumbai at Quantum Asset Management Co., which manages about $100 million. While the RBI move is positive, “the enforcement of contract with Indian companies is a problem due to inordinate delay in disposing of cases by the courts,’’ he said.

26 Cents

Modi is planning to overhaul bankruptcy laws that date back a century in a bid to make them more friendly to lenders. Legal delays currently allow some owners to strip their company’s assets, which may explain why creditors typically recover less than 26 cents on the dollar in India, compared with more than 80 cents in the U.S. , according to World Bank data.

Indian companies’ offshore debt ratings have suffered a combined 31 downgrades by S&P, Moody’s Investors Service and Fitch Ratings, the most in at least 10 years, data compiled by Bloomberg show. Since 2008, the borrowers have missed payments on at least $1.5 billion of foreign-currency bonds.

Crunching numbers on rupee defaults is harder to do in such an opaque market. The number of distressed bonds traded in the U.S. reached almost 700 in November, the most in six years, according to data from Trace. They currently have an outstanding face value of more than $400 billion.

“There are too many interesting and valuable opportunities in the U.S., which do not have the geo-political risk and the element of uncertainty of process that is present in an Indian distressed situation,” said David D. Tawil, president of New York-based distressed fund Maglan Capital LP. “The overwhelming majority of distressed-focused firms will not devote the resources necessary to become educated on the vagaries of the country and will not take the time to secure sophisticated ‘boots on the ground’.”

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