Default swaps: RBI allows foreign funds

The Reserve Bank of India (RBI) is in favour of allowing foreign funds in the market when credit default swaps (CDS) for corporate bonds are launched, in a move aimed at developing the Indian corporate bond market.

The Reserve Bank of India (RBI) is in favour of allowing foreign funds in the market when credit default swaps (CDS) for corporate bonds are launched, in a move aimed at developing the Indian corporate bond market.

HT Image

In draft guidelines released on Wednesday, the RBI also limited foreign institutional investors’ (FIIs) role only to hedge their credit risk and has suggested them to be included as ‘users’. This means that FIIs can buy credit protection to only hedge their credit risks.

CDS allows creditors to insure against the possibility of default by a borrower. It is a swap contract in which the protection buyer, who has exposure to a bond or loan, makes regular premium payments to the protection seller and in return the seller assumes the risk in case of a default.

According to sector watchers, the entry of FIIs into CDS will allow them to park more money in the Indian bond market. At present, FIIs in government securities and corporate bonds is $30 billion (around R1,35,000 crore).

The RBI had issued a draft report on CDS for corporate bonds in August 2010. The latest draft will be open for feedback up to March 8 and this is the fourth time that the RBI has come out with a draft report on the same.