REC’s Rs 1000-cr debenture issue opens today: Should HNIs invest in first such AAA-rated PSU issue?

Crisil said that the returns on the debentures have significant risks other than credit risk, while ICRA said that the rating does not address the risks associated with variability in returns resulting from adverse movements in the variable(s) concerned.

REC Ltd is looking to raise up to Rs 1,000 crore from the market through Principal Protected, Market Linked Debenture, in an issue which opens for subscription today. This is the first such issue by a AAA-rated PSU issuer. The upcoming senior unsecured debenture issue has been rated AAA by domestic rating agencies CRISIL and ICRA. The market-linked debentures that open for bidding on Monday are unsecured, with the 10-year G-Sec being the underlying benchmark. The principal amount of the debentures is protected, while the coupon income on it will be market-linked, according to the brief of the proposal.

Who is it for

With the minimum investment fixed at Rs 1 crore, and in multiples of Rs 10 lakh thereafter, experts say, REC’s debenture issue will primarily attract non-retail investors. “REC has been tasked with managing capital gain series and they have not set a precedent of defaulting,” Sriram B K R, Investment Strategist, Geojit Financial Services, told Financial Express Online.

What’s in it for investors

The coupon, which is yet to be decided, will be variable, market-linked, benchmarked to the 10-year G-Sec, and payable only at maturity. “The interest for the entire three years is to be paid at the end of the three year period, which is not good for investors as they remain in suspense on what coupon payment they will finally get,” Deepak Jasani, Head-Retail Research, HDFC Securities, told Financial Express Online. At present, the three-year G-sec is at 4.4% and 10-year G-sec is at 5.9%, which is an advantage here.

What are the risks

Further, if the final coupon fixing level falls to below 3 percent, then the issuer will not make any coupon payment to the debenture holders. “The coupon is variable here. If the 10-year G-sec falls to 50% (of the current level) in three years then investors won’t get any interest,” Deepak Jasani said. With the coupon rate being linked to 10-year G-sec, investors might face uncertainties in the initial years of the instrument that matures in June 2023. “There could be a problem of liquidity, especially in the first half. In the last few months, we can still expect that there will be clarity whether interest rates will fall below 50% of the current level. Buyers will have this uncertainty as to what kind of payment they should make,” Deepak Jasani added.

Investment rationale

CRISIL has assigned its ‘CRISIL PP-MLD AAAr/Stable’ rating to the Rs 1000 crore long term principal-protected market linked debentures. Similarly, ICRA has a PP-MLD[ICRA]AAA (Stable); rating on the instrument. Crisil said that the returns on the debentures have significant risks other than credit risk, while ICRA said that the rating does not address the risks associated with variability in returns resulting from adverse movements in the variable(s) concerned.

Explaining the rationale behind the 10-year G-sec being the underlying benchmark security Sriram B.K.R said, “The government’s proposal to allow retail investors in G-sec has not come into force fully. If investors buy G-sec directly then interest will be income. Here you can sell it in the secondary market near to maturity.”

Sriram B K R expects some changes in the issue on Monday when the bidding starts. On the other hand, there might be better investment avenues available in the market. “This instrument is meant for people who feel that interest rates are slated to fall over the next three years but may not fall to 50% of the current level. As an alternative to this instrument, I think gilt funds can be explored because they will give an upside if interest rates fall. Then there are also tax-free bonds (including of REC) which are available at 4.8-5.0% taxfree yield for similar maturity in the secondary market. This will bring no uncertainty in terms of the likely coupon payment at the end of the tenure.,” Deepak Jasani said. If tax rates fall investors can pocket better returns in gilt funds.