Bond risk for State Bank of India (SBIN) has surged the most since 2008’s credit crisis as a plunging rupee threatens to hurt company finances and boost loan defaults.
The cost to insure debt of the nation’s largest lender against non-payment for five years rose 86 basis points in June, the most since October 2008, to 275, according to data provider CMA. Credit-default swaps on Bank of China Ltd. climbed 43 basis points to 157. The average swap price for five Indian lenders jumped 93 basis points to 295 last month, as the rupee slid 4.9 percent and touched a record low of 60.765 per dollar.
A vendor waits for customers outside a store selling air conditioning units in Nagpur, India. Photographer: Dhiraj Singh/Bloomberg
Fitch Ratings and Moody’s Investors Service’s Indian unit said the highest exchange-rate volatility in a year could lead to losses in overseas trade and borrowings for firms, eroding their ability to meet repayment obligations. Non-performing debt as a proportion of total lending rose to 3.7 percent in December, the most in at least five years, amid the slowest economic growth in a decade, according to the central bank.
“The rupee’s rout could be a further drag on lenders’ asset quality,” Vibha Batra, co-head of financial-sector ratings in New Delhi at ICRA Ltd., the local unit of Moody’s, said in a phone interview on July 3. “Unhedged overseas borrowings by companies and reduced profit margins for manufacturers could add to the bad loans of the banks in the short to medium term.”
The rupee tumbled 8.6 percent last quarter in Asia’s worst exchange-rate performance as U.S. policy makers signaled they will scale back stimulus, sparking a selloff across emerging markets. A measure of 10-day historical volatility in the currency jumped to 18.2 percent on June 28, the most in almost a year. The rupee lost 0.2 percent to 60.24 per dollar on July 5.
“It is difficult for companies to plan for such sharp fluctuations in currency as we are seeing now,” said Akhil Jindal, director for group corporate affairs at Welspun Corp., a supplier of oil pipelines for Exxon Mobil Corp. and Saudi Aramco. “The impact of this on the profitability of most corporates will be negative and it will have an impact on their debt servicing capability.”
Options signal swings in the rupee will only widen. The currency’s one-month implied volatility surged 363 basis points since May 31 to 12.86 percent, signaling a greater potential for losses. Traders quote the gauge, a measure of expected swings in exchange rates, as part of options prices.
Currency “volatility tends to hit corporates badly,” Diwakar Gupta, chief financial officer in Mumbai at government-controlled State Bank, said in an interview with Bloomberg TV India on July 4. “To the extent that it hits the corporates adversely, it obviously hits banks adversely because already we are in a situation of extended credit stress and that is only going to get worse.”
The rupee’s tumble will inflict “significant damage” on Asia’s third-largest economy, leading to losses on companies’ overseas borrowings and fueling inflation, Sanjay Mathur, head of research and strategy in Singapore at Royal Bank of Scotland Group Plc, wrote in a report last week. The $1.9 trillion economy expanded 5 percent in the year ended March 31, the least since 2002-2003, according to official data.
Indian companies’ overseas debt of 6.2 trillion rupees ($103 billion) amounted to about 22 percent of their total borrowings and central bank estimates show only 60 percent of these loans are hedged, Mathur wrote.
“It is also possible that weaker debt servicing capacity on external borrowings has a knock-on impact on domestic loans as well,” he wrote. “The prospects of further deterioration in asset quality of domestic banks and tightening of bank lending standards have likely increased.”
The Reserve Bank of India has advised lenders to evaluate the risks arising out of corporate clients’ unhedged foreign-currency exposure, which has implications for banks’ asset quality and profitability, it said in a statement on July 2.
Each one-rupee depreciation against the dollar increases the losses of Indian oil companies, which are required to sell fuels below cost to help rein in inflation, by 80 billion rupees, P.K. Goyal, New Delhi-based finance director at Indian Oil Ltd., the nation’s largest refiner, said in a June 24 interview. India is the world’s no. 4 oil consumer, and buys almost 80 percent of its energy abroad.
“Since oil companies are the largest users of foreign currency in India, we are concerned about the exchange rate and subsidies,” said Goyal.
India has stepped up efforts to shield its financial system from loan defaults after the economic slowdown and Asia’s highest funding costs forced companies including Kingfisher Airlines Ltd. to delay repaying liabilities. The RBI ordered banks to boost reserves against restructured debt to 5 percent from 2.75 percent, according to a May 30 statement.
In April, Prime Minister Manmohan Singh’s government directed state-run lenders to slash gross bad loans to 1 percent of total assets by March 2014 from 4.1 percent in September 2012.
Restructured loans, which give companies a moratorium on payments, longer maturities or lower interest rates to avoid defaults, more than doubled in the year ended March 2012 to 2.2 trillion rupees, according to Moody’s. State Bank posted a 19 percent decline in profits for the three months ended March 31 as provisions for soured assets rose.
Loans renegotiated by firms including those to wind-turbine maker Suzlon Energy Ltd., which defaulted on bond payments in 2012, totaled 2.29 trillion rupees on March 31, up 65 percent from a year earlier, according to data from the Corporate Debt Restructuring Mechanism, formed by India’s biggest banks.
Debt costs for local companies are rising from a four-year low, threatening their repayment ability, as the rupee’s slide sparks concern inflation will quicken, reducing scope for the central bank to cut interest rates.
The yield on 10-year AAA corporate bonds has climbed 67 basis points to 8.67 percent since May 31, and that on similar-maturity sovereign notes by 26 basis points to 7.5 percent, data compiled by Bloomberg show. RBI Governor Duvvuri Subbarao left the repurchase rate unchanged at 7.25 percent on June 17, after cutting it in May, March and January.
The yield on the 9.95 percent notes due 2026 of State Bank of India rose to 8.75 percent last week from 8.46 percent at the end of May, prices from the Fixed Income Money Market and Derivatives Association of India show.
“The possibility of defaults on unhedged foreign-exchange exposure is rising with the volatility in the currency,” said Ananda Bhoumik, a senior director at the Indian unit of Fitch Ratings Ltd. “We are waiting for more data on the quantum of the impact on asset quality and profitability of lenders before taking a call on the ratings.”