India Inc grapples with rising hedging costs

Cost of raising funds via dollar bonds almost equal to domestic cost of fund-raising; rupee hits fresh closing low of 53.22 a dollfar.

The depreciating Indian rupee (the currency touched a record low for the second day in a row and closed at 53.22/23 to the dollar on Tuesday) has brought the foreign fund-raising cost for India Inc on a par with the domestic borrowing cost.

Dollar shortage and poor investor appetite due to the euro zone members' inability to reach a consensus to solve the region's debt crisis have made foreign funds expensive.

Spiralling hedging costs due to volatility in the Indian foreign exchange market have further increased the overall cost of borrowing abroad.

"As of today, the cost of raising funds via dollar bonds is almost equal to the domestic cost of fund-raising.

The hedging cost has shot up in the past couple of months," said H D Khunteta, finance director at Rural Electrification Corporation, an AAA-rated non-banking financial company.

In September, the company could raise funds at 7.3 per cent while funds abroad are available at more than nine per cent now, according to Khunteta.

Currently, domestic corporate bond yields are 9.5-9.75 per cent, almost the same as the total cost of borrowing abroad.

The total cost of raising foreign funds for a company is equal to the sum of the Mumbai interbank forward offer rate -- an indicator of the hedging cost and cost to company.

One-year MIFOR went up from 2.85 per cent in September to as high as five per cent in December, with sharp fluctuations during the period and five-year MIFOR was up from 4.98 per cent to 6.13 per cent during the period.

The forward premium or the price paid for hedging by buying dollars in the forward market has been seesawing within short intervals.

"There is extreme volatility in the forward premium market and the forward premiums, ultimately the hedging cost that had gone as low as two per cent in September, have shot to 4.3 per cent now and discouraged companies from hedging," said Abhishek Goenka, chief executive officer, India Forex Advisors.

Currently, the forward premium for one year is around Rs 2.12 a dollar.

Also, with the rupee on a sharp decline, the hedging costs are expected to shoot up because

of volatility in the exchange rate.

"The depreciating rupee has made overseas funds more expensive as the hedging costs have gone up," said Ajay Manglunia, head of fixed income, Edelweiss Financial Services. In the first half of the year, companies actively raised funds because the rupee was strong around 44 a dollar, he added.

Interestingly, Mifor has gone up faster than the rupee fall from September this year, despite the currency touching all-time lows.

The rupee has dropped more than 18 per cent against the dollar since September 2011 and if it continues to fall, overseas funds may become dearer than domestic funds, investment bankers say.

"The rupee bond markets are likely to witness increased activity in the coming months as borrowers find it increasingly difficult to tap the offshore markets, given the evolving situation in Europe.

Also, with the RBI's dovish monetary stance, rates are likely to trend lower and result in more institutions and corporate tapping, finding this market cost-effective compared to offshore borrowings," said Kaustubh Kulkarni, director capital markets, Standard Chartered Bank.

With the rupee depreciating sharply since August, companies who have long-term borrowing, will have to shell out far more than ones who need short-term finance.

"Hedging long-term overseas exposure is more expensive as the premium goes up as the tenor increases," Khunteta of REC said.

The increased cost of raising funds abroad should lead to more activity in the domestic market, he said.

The companies, which partially hedge their foreign exchange risk, are able to raise funds at a lower cost offshore.

However, the large unhedged exposure can be detrimental if the domestic currency is falling and the outlook is unclear, said arrangers.

Some companies, who had partially hedged their exposure, are now looking to fully hedge it even with the rupee hovering at 53 per dollar as the outlook is bleak, the arranger of a leading foreign bank said.

Experts advise rupee bonds should be looked at as a source of funds by companies as the yields are on a downward trajectory.

"For top-rated companies, the bond yields have been coming off sharply for the last couple of weeks and it now makes more sense for these corporates to issue rupee bonds vis-a-vis overseas bonds," said Nirav Dalal, managing director, debt capital markets, YES Bank.