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Call option exercised by FIs upsets investors - Views on News from Equitymaster
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  • Jul 6, 2000

    Call option exercised by FIs upsets investors

    Close on the heels of the call option exercised by IDBI on its two bonds under the flexibond series-I issued in 1996, IFCI has also decided to use the `call' 'option to pare its high cost of borrowing. By resorting to the `call option' the institution wants to take advantage of the currently prevailing easy interest rate regime.

    According to media reports, the institution has already dispatched letters to bondholders requesting them to compulsorily redeem the education and retirement bonds by September 2000 issued in fiscal 1996, having a maturity profile of 25 years.

    The fact that the overnight call rates have eased to 6% -7% from the earlier peg of 15% -18% (a few weeks ago) clearly state that interest rates are expected to rule easy for the present. The fact that government security prices in the secondary market have moved up slightly across all maturities reveal that rates are likely to remain stable. Thus it makes more sense for the institution to resort to the call option.

    But what about investors! Are they feeling cheated? Well, they are as they were promised a hefty sum when they subscribed to the bonds having a 25-year maturity profile.

    IFCI offered five bonds to investors--retirement, education, millionaire, gift and growing income in 1996 through a public issue. It can be gauge from the current scenario that the other three bonds--millionaire, gift and growing income will be compulsorily redeemed in their first available option (2002 and 2003).

    Currently institutions are finding it very difficult to service the high cost bonds issued way back in the early 90s. The fact that there is a huge gap between the borrowing cost which is pegged at 17%-18% vis-a-vis the PLR (prime lending rate) of 12.5%, institutions have no other option than to exercise call option.

    Industrial Development Bank of India (IDBI) recently launched a special deposit scheme -- IDBI Suvidha, a switchover scheme designed exclusively for the bondholders (deep discount & retirement bonds) of the Flexibond 1996 series. The institution gave two options to the investors---either to redeem the bonds or to shift their funds to the Suvidha scheme (a fixed deposit scheme) offering a 25-30 basis points higher interest on the deposits as against the prevailing market rate as a `loyalty premium' to the investors. Investors are of the view that both the institutions, IDBI and IFCI have not set a good example by recalling the bonds.



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