Debt ETFs: A unique idea but liquidity is a concern
What the FM said: Finance Minister Jaitley briefly mentioned exchange traded debt funds (ETFs) in his Budget speech of 2018.
The government had earlier introduced Exchange Traded Fund Bharat-22 to raise Rs 14,500 crore, which was over-subscribed. The Department of Investment and Public Asset Management (DIPAM) will come up with more ETF offers, including debt ETF.
What it means: When PSU companies require to raise debt, they can do it through an ETF where the investor will be given a coupon. The ETF will then trade like a bond in the debt market.
While ETFs in general have been successful as a vehicle for disinvestment, the Finance Minister felt that the time had now come to launch a debt ETF.
But while equity ETFs have been the norm and have worked in the Indian equity market, the same cannot be said of debt ETFs.
Unlike the CPSE (Central Public Sector Enterprise) or Bharat 22, which are based on the Hong Kong Tracker, there are no debt ETFs offered by any government in the world. If the Indian government creates a debt ETF for its PSU, it would be one of its kind.
The equity markets in India are liquid and buoyant and can absorb large sales of shares through institutions as well as retail investors. But the corporate bond market is not liquid enough.
The fine print:
In 2016-17 corporate India raised a debt of Rs 6.70 lakh crore against a bank borrowing of Rs 6.32 lakh crore. Much of these bonds were subscribed by mutual funds and the liquidity has been very low.
The FM in his speech mentioned that 25% of the borrowings by corporate India should be met through the bond markets to deepen the debt market.
“While this is a great idea, it will take at least five more years to create a bond market for Indian companies. The idea of a debt ETF is good but how can you launch the debt ETF without a functioning liquid bond market?”, asks a fund manager who is known for managing some of the big ETFs in the country.
Private-sector bonds had takers because the fundamentals of these companies are strong. The same cannot be said of the bonds offered by government-owned companies.
The CPSE ETF consisted of 10 PSU companies and collected around Rs 3000 crore in March 2014. The fund also performed as per the expectations of the investors initially, but has underperformed since.
According to Morningstar India, a fund analytics company, the CPSE has given a return of 7.38% annually over the last three years compared with 8.79% for the S&P BSE 100.