What affects the interest rates of corporate debentures in international market? Is it true for Nepali corporate debentures

In the developed capital market, the debt market (debentures and bonds) is just as popular as the equity market (shares). Likewise in Nepal, as we are slowly progressing towards more options and instruments in the capital market, the corporate debentures are being issued in huge quantities by commercial banks in the recent period.

Currently, there are 25 corporate debentures that have already been issued and are nearing maturity, 3 debentures' issue is ongoing and is open for application. Finally there 3 upcoming issues, where 1 has been approved by the Securities Board of Nepal (SEBON) and 2 are in the pipeline.

The table below shows the whole list:

The interest rates presented in the third column represents the coupon rate that the issuer (commercial banks) have to pay to the investors on regular intervals irrespective of the prevailing market interest rates during that period. Therefore, the determination of coupon rate depends upon factors such as:

1. Current interest rate
2. Expected interest rates and inflation
3. Credit rating of the debenture
4. Maturity period
5. Additional features of the debenture
6. Credibility of the issuing organization

However, despite these factors the debentures that have been issued lately have very identical coupon rates ranging from 10% to 10.5%.

Since all investors don't have the time and the resources to do a thorough analysis of each instruments that come in the market, credit rating agencies are given the task of analyzing the company, its industry, the instruments' viability and credibility. In Nepal, currently there are two rating agencies ICRA Nepal and CARE Nepal.

In international market, better credit rating means safer investment, which means less risk and this leads to less interest rate. However, as you can see in the table below the theory doesn't add up very well. The comparison is limited because 9 out of 10 debentures have been rated as "Low credit risk". However, we can compare the last one.

As you can see the last 4 items on the table, they all have the maturity of 10 years and only Nepal Bangladesh Bank's debenture has been rated as "Moderate credit risk". Despite the difference in rating, its interest is similar to that of Machhapuchhchre Bank's debenture at 10.25%.

Likewise we can make similar inference from the maturity period. The general inference states that longer maturity period subjects the investor to longer period of volatility leading to more risk and hence higher interest rates.

However, as we can see in the table Nepal Investment Bank despite having "Low credit risk rating" and a maturity of 7 years only has provided 10.5% and NIC Asia Bank with same feature offered 11% which is the highest in the lot.

When it comes to debt market, government bonds are the safest instruments and therefore the rate charged on them is considered as the risk free rate and a premium is added for risky instruments based on exposure.

The table below shows the time series of Citizen Saving Bonds floated by the Nepal Rastra Bank (NRB) on behalf of the government. The interest rates over the years have very least fluctuation with lowest at 6% and highest at 9.5%.

However, over the years we can see that the correlation between Citizen Saving Bond and Corporate Debentures is very weak. This might be because our market isn't effective and efficient as the international markets.

Therefore, next time we choose a debenture to invest in, we need to look at these factors ranging from yield on alternative government instruments, the banks' status and so on. Most often banks also provide higher rates because of liquidity pressure and in such situation it might be the choice we've been looking for.