Banking stocks feel the heat of SEBI's directive on perpetual bonds; Nifty Bank down 6% in 5 days

Indian equities have been on a losing spree for the last four sessions amid mixed global cues along with concerns over macroeconomic indicators and a spike in coronavirus infections after weeks of a lull.

While most sectors have been witnessing selling pressure, bank stocks are among the top laggards. In the last five trading sessions, the Nifty Bank has slipped 6 percent, while the Nifty50 has lost 4 percent. On March 18, the Nifty Bank fell 1.09 percent and the Nifty Private Bank index declined 1.17 percent. The Nifty PSU Bank index took a bigger hit, declining 1.96 percent.

Experts say that market regulator Securities and Exchange Board of India's (Sebi's) new directive on perpetual bonds, which will be effective April 1, was weighing on banking stocks, especially the PSU banks.

"The recent fall in the banking stocks can be attributed to the reform of the SEBI regarding the treatment and valuation of perpetual bonds. Perpetual bonds have no liability on the issuer to repay or make coupon payments if it is not profitable but it also embeds a call option with the bond for a specified date in the future and the investors (institutional) e.g mutual funds used to value and consider the maturity as of the option trigger date," Vishal Balabhadruni, Senior Research Analyst, CapitalVia Global Research, pointed out.

Additional tier 1 bonds (AT-1 bonds) are issued by banks and have no maturity date but have a call option. So, they are called perpetual bonds.

In a circular on March 10, SEBI capped mutual funds' exposure to additional tier 1 and tier 2 bonds. Moreover, the regulator has proposed tighter norms for valuing these bonds.

As reported by Moneycontrol earlier, SEBI placed a cap on investments by a mutual fund house (asset management company level) under all its schemes in bonds with special features (primarily AT1 and T2) to not more than 10 percent from one issuer.

Read more: What makes SEBI’s move on AT1 bonds held by mutual funds a contentious issue?

Public sector banks (PSBs) are big issuers of AT1 bonds and it will become more difficult and expensive for them to raise capital through AT1 bonds, which, in turn, will put pressure on the government for capital infusion.

"SEBI has mandated that funds which claim to make investments in fixed maturity bonds can no longer buy into these securities and other funds’ exposure are also to be capped at 10 percent. This circular has created problems for the fundraising plans of PSBs, which were looking to raising Rs 3,500 crore through this route. Shorter duration yields rose 25 basis points in the secondary market thereby having an effect on these stocks," said Balabhadruni.

The finance ministry has advised SEBI to withdraw the new regulation that requires treating perpetual bonds as 100-year maturity debt papers for the purpose of valuation.

However, it said that the directions that could reduce concentration risk in such bonds could be retained as MFs had “adequate headroom even within 10 percent ceiling”.

Read more: Finance ministry asks SEBI to withdraw 100-year maturity rule on perpetual bonds

On the technical front, the Nifty Bank index formed a bearish candle on the daily scale on March 17.

"Till it remains below 34,750 level, weakness could be seen towards 33,500 and 33,333 levels while on the upside, key hurdle exists at 35,000 level," said Chandan Taparia, Vice President and Derivatives Analyst, Motilal Oswal Financial Services.

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