Rupee Denominated Bonds

Updated on 24 Oct, 2023

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What are Rupee Denominated Bonds?

A rupee-denominated bond is also known as a masala bond. It is a debt instrument issued by an Indian entity in foreign markets in Indian currency. Also, the interest and principal amount are denominated in rupees rather than in dollars or local currency. The major objective of these bonds is to raise money in local currency from foreign investors to fund infrastructure projects, increase internal growth and internationalise Indian Rupee.

Both government and private companies can issue these bonds. Foreign investors who wish to invest in India can invest in rupee denominated bonds. Also, these bonds are attractive to foreign investors because they offer a high interest rate compared to the standard interest rate prevailing in the market. However, investors are exposed to currency risk or exchange rate risk if the value of the Indian rupee falls. The foreign investor will bear the losses and not the issuer.

The masala bonds were first issued in 2014 to fund infrastructure projects in India by the International Finance Corporation (IFC), backed by the World Bank. Also, the entire framework for issuing these bonds falls within the External Commercial Borrowings (ECB). In India, Masala means spices. Thus, these bonds were named masala bonds to give Indian flavour to bonds on foreign platforms.

Features of Rupee Denominated Bonds

The following are the key features of rupee denominated bonds –

1. Recognised Investors

These bonds can be issued only to the resident of a country who is a member of the Financial Action Task Force (FATF). Also, the country’s security market regulator must be a member of the International Organisation of Securities Commission. Furthermore, these bonds can also be subscribed by regional and multilateral financial institutions where India is a member country. Apart from this, any foreign investor who is restricted directly from the Indian market or prefers to invest from their own locations can invest in rupee denominated bonds.

2. Eligible Borrower

All body corporates, real estate investment trusts and infrastructure investment trusts can issue these bonds overseas. These firms have access to a larger investor base. Also, entities like LLPs opt for these bonds to raise debt. Indiabulls, HDFC, and NTPC are a few entities which have raised funds by issuing masala bonds.

3. Maturity Period

RBI has reduced the minimum maturity period from five to three years to make these bonds more attractive through the FPI route.

4. Amount

The maximum amount an entity can borrow in a financial year by issuing these bonds under an automatic route is INR 50 billion. Any amount beyond this will require prior approval from RBI.

5. Listing

These bonds can be privately placed or listed on a stock exchange per the host country’s regulations.

6. Cost

All costs are subject to prevailing market conditions and comparable with the cost at which the borrowing company is able to raise money in India.

7. End-use prescriptions

The proceeds of borrowing from these bonds can be used for all purposes except the following:

Real estate activities other than the development of integrated township or affordable housing projects
Investing in capital markets or using it for equity investment domestically
Activities prohibited as per the FDI guidelines
On lending to other entities for any of the above purpose
Purchase of land

Advantages of Investing in Rupee Denominated Bonds

There are several advantages of rupee denominated bonds to both investors and borrowers. The following are the benefits to investors –

These bonds have opened the investment route for foreign investors who do not have access to the domestic market through Foreign Institutional Investor (FII) or Foreign Portfolio Investor (FPI) route.
There is less documentation work as FPIs do not have to register in India.
It helps foreign investors build confidence in the Indian economy.
The capital gains arising from these bonds are exempted from tax.
In case the rupee appreciates at the time of maturity, it benefits the investor.

Some benefits to borrowers –

The entity issuing bonds does not have to worry about currency fluctuations because these bonds are issued in Indian currency rather than foreign currency.
It helps borrowers to mobilise huge amounts of funds.
Indian entities can diversify their portfolio with the help of these bonds.
It aids borrowers in cutting costs as the cost of funds is cheaper outside India and issued below 7% interest rate.

The following are the benefits to India –

These bonds help to internalise the Indian rupee as foreign investors become more familiar with the Indian rupee, the Indian economy and its growth prospects.
Interest rates are very low in different currencies like the US dollar, yen, pound sterling and euro. Therefore, it is very beneficial for Indian companies to raise funds.
It will boost the development of domestic markets due to competition in overseas markets.

Disadvantages of Investing in Rupee Denominated Bonds

The following are the disadvantages of rupee denominated bonds –

The RBI has been making periodical cuts in interest rates of these bonds, which made these bonds less appealing to investors.
The money raised through these bonds cannot be used for every purpose. There are only a few options where the money can be invested.
The sustainability of these bonds is challenging as investors need to be cautious while taking currency risks in emerging markets.

Frequently Asked Questions

Is Masala Bond the same as Rupee Denominated Bond?

Yes, rupee denominated bonds are also called masala bonds.

Why are Rupee Denominated Bonds called Masala Bonds?

Rupee denominated bonds are also called masala bonds because they are issued outside India in Indian currency rather than any other local currency. Also, the word Masala means Indian spices. International Finance Corporation (IFC) used the term Masala to evoke the cuisine and culture of India. Moreover, masala bonds make investors bear the risk, unlike dollar bonds, where borrowers take the risk.

What is the maturity period of rupee-denominated bonds?

The minimum maturity period for these bonds is three years when bonds are raised up to INR 50 billion in a financial year. But if the bonds are raised above INR 50 billion in a financial year, the minimum maturity period is five years.

When was the first rupee-denominated bond introduced?

The first rupee denominated bond was issued by the World Bank-backed by IFC in November 2014. It raised INR 1000 crores in bonds to fund the infrastructure projects in India. Later in August 2015, IFC issued green rupee denominated bonds or masala bonds and raised INR 3.15 billion. These funds were used for private-sector investments addressing India’s climate change.

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