Credit Market's Big Worry After Bankruptcy Law Paused Over Virus Crisis

Since the government announced last month that it would temporarily suspend its insolvency law amid the pandemic, credit investors have grown concerned that some weaker borrowers may use the development as an excuse to delay or avoid debt payments.

Yield premiums jumped after Finance Minister Nirmala Sitharaman unveiled the suspension, and the extra spread that investors demand to hold short-term AA rated debt over AAA notes has risen to its highest in about nine years.

“Suspension of bankruptcy filings can give firms a reason to take advantage of the situation and delay debt repayments,” according to Rajat Bahl, chief ratings officer at Brickwork Ratings in Mumbai. “This will be a setback to bond investors and creditors.”

The government enacted the measure earlier this month to help borrowers, but for investors and lenders it just adds to concerns that they won't get their money back on time, making them more cautious about where to invest. Fund managers are bracing for a surge in corporate defaults with the Indian economy forecast to contract for the first time in more than four decades this fiscal year, despite policy-maker steps to ease borrower stress.

India's four-year-old Insolvency and Bankruptcy Code (IBC) had quickened debt resolution for the nation's distressed companies. Under the recent amendment, a creditor won't be able to initiate bankruptcy proceedings against a borrower for defaulting on debt because of the pandemic, in the six-month period started March 25. The government has an option to extend the rules for as long as a year.

Caution was already high among the Indian bond investors before the pandemic hit, after domestic issuers failed to repay a record Rs 1,37,00 crore of corporate notes in 2019, according to data compiled by Bloomberg. Indian companies face a record Rs 6.1 lakh crore of local-currency notes due in 2020 on top of other debts, the data show.

Steps by policy makers such as funding banks to purchase corporate debt and a moratorium on loan repayments until the end of August haven't bolstered confidence among investors. They are still are mostly sticking to notes issued by top-rated local issuers and aren't risking getting into lower-rated securities.