Banks may provide partial credit enhancement to corp bonds

The Reserve Bank of India (RBI) on Thursday allowed banks to provide partial credit enhancement (PCE) to bonds issued by corporate and special purpose vehicles (SPVs) for funding all types of projects. Currently, credit enhancement is limited up to 20 percent of bond issue size which means banks giving credit enhance will bear losses up to 20 percent of the bond amount. (Credit enhancement means 20 percent of the bonds losses will be borne by entity providing enhancement.)This move should help develop the corporate bond market. It should also help infrastructure projects. Infra projects at their initial stage have credit rating below or near investment grade (BBB) due to risks of project implementation. Hence insurance companies can’t invest in these bonds. But if banks were to give them credit enhancement, the credit rating of infra bonds will improve and insurance and pension funds can invest in them.Banks, however, will have to keep extra capital to the extent they provide credit enhancement.