In order to benefit from the interest cost arbitrage, Indian companies are trying to raise foreign debt and retire their domestic borrowings. US treasuries are now trading at 30-year lows. The 10-year US T-bill is at 1.65% and default rates at an all-time low. Continued monetary stimulus from the Fed is expected to keep rates at rock bottom levels.
In contrast in India, the central bank has been one of the most aggressive in the world with 13 rate hikes in less than two years. Even though it has paused its monetary tightening, rates continue to be at elevated levels. India's benchmark 10-year bond yield is currently at 8.19%, making overseas borrowing much more attractive. According to a State Bank of India (SBI) official, Indian companies find an arbitrage opportunity of over 3-6% in raising overseas funds.
The external commercial borrowing (ECB) route has now become easier after a relaxation of guidelines by the Reserve Bank of India (RBI). The RBI allowed companies to raise additional funds through ECBs to repay rupee loans or for new rupee capital expenditure. It also raised the maximum limit of ECBs to 75% of the average foreign exchange earnings in the past three fiscals, or 50% of the highest export earnings in any of the three years, whichever is higher.
Reliance Industries plans to raise US$ 1.5 bn through ECBs and export credit agency loans from Indian and foreign banks for its domestic and international operations. Among other companies, Vedanta plans to raise US$ 300 m for its overseas operations, and Hindustan Petroleum Corporation Ltd (HPCL) and Bharat Petroresources plan to raise US$ 600 m. Since the European Central Bank is buying bonds, dollar liquidity is expected to improve significantly. This will in turn help Indian companies who seek to issue foreign debt. Typical investors in these bonds include insurance companies, hedge funds, and overseas pension funds.
In FY12 the ECB market saw large bond offerings from Indian companies like Bharti Airtel and Vedanta. However this year of money raised has been smaller. Companies in India are not really looking at expansion through acquisitions or through capital expenditure. Companies are instead looking at diversifying their borrowings by raising ECBs and foreign currency convertible bonds (FCCBs) and also trying to reduce their interest expense burdens.
However, companies with heavy such borrowings need to be closely watched, since there is an additional element of forex risk. The last time companies tried the interest rate arbitrage opportunity with FCCBs in 2008, most burnt their fingers.