These instruments-marketed to financial institutions, private equity houses, corporate treasuries, retail investors as well as fund houses and portfolio management firms-don’t come under Sebi’s regulatory domain, which is primary regulator for credit rating agencies.
A credit rating enables entities issuing debt instruments to attract investors and raise money at a cheaper rate. “It seems Sebi is not comfortable with rating of instruments that are somewhat ‘unregulated’ without a clear approval from another regulator,” said a senior banker familiar with the development.
Sebi has not yet issued any circular to restrain CRAs from rating these financial instruments and securities, though the regulatory position was conveyed by senior officials at a recent meeting with rating firms, two persons aware of the development told ET.
Agencies Take up Matter with RBI
In the absence of any formal notification, it is unclear whether Sebi would want rating companies to refrain from grading these papers till NOCs come from RBI or any other agency.
Bankers and others in the financial sector are surprised as the Sebi instruction comes after these instruments have been rated thus for decades.
Fearing that the instruction could leave ratings in large financial markets in a limbo, agencies have taken up the matter with RBI.
A few days ago, the central bank gave its go-ahead on the rating of certificates of deposits, which are primarily issued by banks to raise short-term funds.
However, the central bank is yet to give a green signal to the agencies for rating of unlisted debentures, fixed deposit products of corporates and passthrough certificates (PTCs), which are issued against cash-flows from loans that are securitised by banks and non-banks.
In securitisation, a lender moves a slice of its portfolio of car or home loans to a special purpose vehicle (SPV) that sells PTCs (or debt instruments) to investors against the cash flow from interest and repayments by car or home buyers who took the loans. The funds raised by the SPV from issuance of PTCs is given to the bank or non-bank that has transferred the loans to free up capital on its balance sheet.
“Unlisted debt is often bought by alternative investment funds (the regulatory term for PE and VCs). At times, funds enter an understanding with issuing companies and choose to keep debentures unlisted, maybe to avoid disclosure requirements. However, they seek ratings to preserve the confidence of LPs (limited partners) who put money in the funds,” said an industry person. “We understand where Sebi is coming from. It doesn’t want some instruments whose issuance have grown over the years to fall between cracks.”
“That the central bank would approve the rating of certificates of deposits was probably expected, as these are issued by banks which RBI directly regulates. But it would be interesting to see the decision RBI takes on corporate FDs, PTCs and unlisted corporate bonds,” said a banker.
The absence of ratings could impact the market for these instruments and raise the cost of fundraising for many companies.
The rating agencies have the approval of RBI, which acts as a secondary regulator, for rating of bank loans and commercial papers. A bank saves capital when a large part of the assets in their loan books is rated because unrated loans, according to banking regulation, carry a higher risk weightage. More capital is earmarked for loans that have higher risk.
Since the IL&FS default in 2018, regulators have been plugging some of the gaps in the credit rating industry.
A few years ago, RBI said ratings given on loans to a company cannot be notched up on the basis of “diluted and non-prudent support structures” such as ‘letter of comfort,’ ‘letter of support or undertaking,’ and other covers like ‘pledge of shares.’
Instead, ratings can be improved only on the back of proper guarantees and then too, only if there is a strict timeline on the invocation of guarantee by lenders.
