India to launch first debt exchange-traded fund for state firms
04 December 2019
India will launch its first debt exchange-traded fund (EFT) comprising debt of state-run companies, finance minister Nirmala Sitharaman said on Wednesday, adding that it would allow retail investors to buy government debt.
The Cabinet Committee on Economic Affairs (CCEA), chaired by Prime Minister Narendra Modi today gave its approval for creation of Bharat Bond Exchange Traded Fund (ETF) which will be an additional source of funding for central public sector undertakings (CPSUs) central public sector enterprises (CPSEs), central public financial institutions (CPFIs) and other government organisations.
“It will be the first corporate ETF, which will provide additional money for PSUs (public sector undertakings) as well as other government organisations,” Sitharaman told reporters, after the cabinet approved the proposal.
The ETF, called Bharat Bond ETF, will have a fixed maturity of three and ten years and will trade on the local stock exchange. It will invest in a portfolio of bonds of state-run companies and other government entities, a government statement said.
Bharat Bond ETF would be the first corporate Bond ETF in the country.
The ETF will be a basket of bonds issued by CPSE/CPSU/CPFI/any other government organisation (initially, all AAA rated) that are: tradable on exchange with unit size of Rs1,000. The ETF will have a transparent NAV with periodic live NAVs during the day, daily disclosures and low operation cost.
Each ETF will have a fixed maturity date. The ETF will track the underlying index on risk replication basis, ie, matching Credit Quality and Average Maturity of the Index.
The money so raised will be invested in a portfolio of bonds of CPSE, CPSU, CPFI or any other government organisations that matures on or before the maturity date of the ETF.
The ETF will have 2 maturity series - 3 and 10 years. Each series will have a separate index of the same maturity series.
The index will be constructed by an independent index provider – National Stock Exchange. There will be different indices tracking specific maturity years - 3 and 10 years.
For investors, the Bharat Bond ETF will provide safety (underlying bonds are issued by CPSEs and other government owned entities), liquidity (tradability on exchange) and predictable tax efficient returns (target maturity structure).
It will also provide access to retail investors to invest in bonds with smaller amount (as low as Rs1,000) thereby providing easy and low-cost access to bond markets.
This will increase participation of retail investors who are currently not participating in bond markets due to liquidity and accessibility constraints.
Bharat ETF will offer better tax efficiency compared to bonds as coupons from the bonds are taxed at marginal rates. Bond ETFs are taxed with the benefit of indexation which significantly reduces the tax on capital gains for investor.
Bond ETF would offer CPSEs, CPSUs, CPFIs and other government organisations an additional source of meeting their borrowing requirements apart from bank financing.
It will expand their investor base through retail and HNI participation which can increase demand for their bonds. With increase in demand for their bonds, these issuers may be able to borrow at reduced cost thereby reducing their cost of borrowing over a period of time.
Further, bond ETF trading on the exchange will help in better price discovery of the underlying bonds.
Since a broad debt calendar to assess the borrowing needs of the CPSEs would be prepared and approved each year, it would inculcate borrowing discipline in the CPSEs at least to the extent of this investment.
The Target Maturity Bond ETF is expected to create a yield curve and a ladder of Bond ETFs with different maturities across calendar years.
ETF is expected to create new eco-system - market makers, index providers and awareness amongst investors - for launching new Bond ETFs in India.
This is expected to eventually increase the size of bond ETFs in India leading to achieving key objectives at a larger scale - deepening bond markets, enhancing retail participation and reducing borrowing costs.