The Hindu Business Line : RBI caps spreads on oil bonds at 25 bps

Bangalore, May 28 In a bid to facilitate funds availability to cash-strapped refineries and simultaneously cut bank depreciation losses, the Reserve Bank of India has capped the spreads on oil bonds.

The RBI has now fixed the marked-to-market spread for valuation of oil bonds at 25 basis points over sovereign borrowings. This was against the Fixed Income Money Market and Derivatives Association (FIMMDA) spread of 50 basis points.

Traders said that the shrunk spreads implied that even if the bonds were picked up at discounts as high as 100 basis points, the valuation on the balance sheet needs to be done only at 25 basis points over sovereigns. This would essentially imply that depreciation losses to the banks would remain contained.

Traders said that the spreads were shrunk partly to facilitate funding of the refinery sector. Refiners have increasingly resorted to selling of bonds for working capital requirements. Refinery sale of bonds was also partly due to some banks reaching the prudential sector exposure limit of 20 per cent to the refinery sector. Currently, the sector exposure ceiling is 15 per cent and for the infrastructure sector it is 20 per cent. Refineries are treated as infrastructure.

Under recoveries

Bankers also said, the securitisation of oil subsidies was leading to an oversupply of bonds. This was in view of burgeoning refinery under recoveries. Refinery under-recoveries pertain to the deficit between the average selling price of products and crude purchase prices. Under recoveries this year are estimated to be in excess of Rs 1 lakh crore if the weighted average basket price of crude oil imports remains at current levels. Since the beginning of this financial year the import basket price has averaged about $110 a barrel.

The under recoveries, bankers said, were expected to translate into issuance of more oil bonds. But the new series of oil bonds is likely to be of longer durations, in excess of 15 years, they added. This was to contain the fiscal impact. Interest costs though are likely to exceed the budget estimates for the current year. Interest on oil bonds estimated for the current year was Rs 5,520 crore.

Impact on yield spreads

Faced with the oversupply of bonds, banks were increasingly beginning to push up yield spreads on the bonds. The spreads are currently about 80-100 basis points over sovereigns. For instance, the 8.01 per cent 2023 oil bond was quoted at a yield of 9.06 per cent, on Wednesday. The sovereign bond 6.17 per cent 2023 was quoted at 8.21 per cent or a spread of 85 basis points.

The high spreads were partly on account of the limited buyers. Bank interest in bonds was limited in view of the high investment deposit ratios. The ratios were currently about 34 per cent against the prescribed SLR of 25 per cent. Besides, the bankers said that the rising spreads were also largely on account of some banks taking the position that funds provided to refineries against oil bonds as collateral also comprised part of the prudential ceiling.

It is in this situation that monopoly buyers like LIC and provident funds influenced oil bond yields. LIC’s yield expectations are over 9 per cent, the bankers said.

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