Budget 2026 tries to make corporate bond markets robust, liquid and attractive. The finance minister announced a market-making framework, derivatives on corporate bond indices, and the introduction of total return swaps on corporate bonds.
Market making means having dedicated intermediaries, like primary dealers in government bonds. They make buying and selling easier. SEBI had already floated a consultation paper on corporate bond market-makers back in 2021. TRS and derivatives, meanwhile, allow investors to earn income and hedge their positions without owning bonds directly.
Together, these measures reduce friction for traders and sophisticated investors. But as one banker clarified, tools like TRS create trading demand, not permanent demand. Which is why the core question remains: will companies actually choose to issue bonds?
What Measures Have Already Been Taken?
It's not as if the government has ignored the corporate bond market. Over the past decade, SEBI, the RBI, and the government have built a much stronger ecosystem.
Issuances have grown steadily at 12% annually over the past decade, but not nearly enough for a fast-growing economy. In 2023, India's corporate bond market accounted for just 14% of GDP, far below South Korea (79%), Malaysia (54%), and China (38%). Therefore, we need to understand the structural issues holding the market back.
High Concentration of Top-Rated & Government Companies
As Mumbai-based researcher Harsh Vardhan notes, India's corporate bond market is skewed toward a narrow set of issuers. Over the past decade, more than 85% of bonds have been issued by AA-rated and above companies, while quasi-government entities such as PFC, REC, and NHAI have accounted for over a quarter of total issuance, even after excluding public sector banks.
Chicken-and-Hen Problem
Unlike India, bond markets globally have issuances spread across the rating spectrum. Because of investment rules, insurance companies and pension funds here have to put about two-thirds of their money into such securities. That creates artificial demand for top-rated firms, leaving others overlooked.
It also explains why India's credit default swap market refuses to take off. When most portfolios have the safest credits, there's little incentive to hedge credit risk. Without CDS, lower-rated bond issuance won't scale, and without lower-rated issuances, CDS remains irrelevant. Classic chicken-and-egg.
Implicit Subsidy for CPSUs
High ratings complicate the market in another way. Most PSUs or quasi-governmental companies enjoy an AAA rating mainly because of implicit government support, not because of their financial strength. This allows them to borrow for longer tenors and at lower rates -- 50 to 135 basis points cheaper than comparable private firms, according to Harsh Vardhan.
He estimates that in FY25 alone, this implicit subsidy may have been around Rs 22,800 crore. This creates a moral hazard and crowds out private issuers, which are competing for the same set of institutional funds.
Distorted Bond Pricing
A deeper issue sits beneath this concentration. The yields on corporate bonds are determined over and above the government bond yields. In India, this link is distorted because banks, insurers, and pension funds are mandated to buy government bonds. This forced buying pushes yields down and stops them from reflecting real risks like inflation or fiscal pressure.
Economist Renuka Sane points out that in such an environment, when the base rate itself is distorted, the corporate bond pricing becomes murky. Investors, then, turn conservative, and bond issuance naturally narrows to only the safest borrowers.
Secondary Market Remains Shallow
These problems show up in how these institutions behave. Being incentivised to play safe, they mostly follow a 'buy and hold' approach. The unintended consequence is a thin secondary market, with limited trading and weak liquidity.
At the same time, almost all bonds are privately placed, meaning they are sold directly to a small group of institutional investors rather than being offered to the public. This makes issuance faster and cheaper for companies, but these bonds are held to maturity, leaving little scope for secondary-market trading. Thus, when most bonds never trade after being issued, liquidity-improvement measures become largely ineffective.
A Lesson Policymakers Learned the Hard Way
So, the question we started with still stands: will corporates come to the bond market in a meaningful way? The government has tried nudging companies in this direction before. In 2018, large corporates were required to raise at least 25% of incremental borrowing through bonds, yet about one-third failed to comply.
The reason was simple: after considering interest subsidies, compliance costs, listing fees, and flexibility, bank loans appeared cheaper and easier. The rules were eventually diluted, reinforcing a clear lesson -- you cannot force market behaviour when incentives point elsewhere.
Seen in that light, Budget 2026's measures are useful and well-intentioned. But they are like building bridges -- no matter how strong or well designed, they serve little purpose if no vehicles are willing to cross them.
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