Borrowing cost may rise for lenders

Lakshmi Vilas Bank’s decision to write down Tier-2 bonds worth Rs 318 crore could increase the cost of borrowing for peers, especially the weaker ones, experts said.

The troubled private bank on Thursday said it has written down all of its Basel III compliant Tier-2 bonds as advised by the Reserve Bank of India (RBI), which is arranging its merger with DBS Bank India. RBI had previously written down the entire equity capital of LVB as part of the merger.

The Tier-2 bond wipeout could be seen by investors as setting a precedent, given that these instruments can be written off just like the Additional Tier-1 bonds of YES Bank written off earlier this year.

“Weaker banks, especially in the private sector, will find it difficult to raise Basel III Tier-2 bonds. So far, people ignored the risk of these bonds that have loss absorption clauses, but Section 45 of the Banking Regulation Act allows RBI to take appropriate action when a bank is at a point of non-viability,” said Ajay Manglunia, managing director and head at JM Financial Products.

According to Manglunia, people never understood that risk, and it is a hard lesson for investors as Tier-2 bonds are not on par with deposits. It did come as a huge surprise and shock to the people holding these papers, he said, adding perpetual and Tier-2 bonds of lower-rated private banks will find it very hard to persuade any class of investors now.