Masala Bonds

Masala Bonds help Indian entities borrow from overseas investors in Indian rupees. Since the issuer repays both the principal and interest in rupees, it does not face direct repayment risk from changes in foreign exchange rates.

• These bonds are issued outside India but denominated in Indian rupees.
• Foreign investors bear the currency risk.
• Eligible Indian companies and financial institutions can issue them.
• They may carry fixed or floating interest rates.
• HDFC became the first Indian corporate to issue Masala Bonds in July 2016.
• NTPC issued the first green Masala Bond by an Indian organisation in August 2016.
• These bonds are covered under the Reserve Bank of India’s External Commercial Borrowing framework.
   

Masala Bonds are bonds issued in overseas markets but denominated in Indian rupees. Eligible Indian companies, financial institutions and certain government-supported entities can use them to raise money from international investors.
The issuer pays interest and principal in rupees. Therefore, the foreign investor bears the risk of changes in the rupee’s value.
For example, suppose an Indian company raises ₹100 crore through Masala Bonds. Its repayment remains fixed in rupees even if the rupee weakens against the investor’s home currency.
Their main features are:

• They are issued outside India.
• Their value and repayment are stated in Indian rupees.
• They help Indian entities access international funding.
• They give foreign investors exposure to Indian debt.
• Foreign investors bear the exchange-rate risk.
   

The word “masala” highlights the Indian identity of these bonds. Masala is commonly associated with the mixture of spices used in Indian cooking.

The name represents a combination of:

• Indian financial assets
• International financial markets

The name reflects the Indian origin of these offshore rupee-denominated bonds.

Masala Bonds may be grouped according to their maturity period and interest-rate structure.

1. Short-term masala bonds

Short-term Masala Bonds remain outstanding for a shorter period. They may suit issuers with temporary funding needs and investors who do not want to commit money for a long duration.

Their risk still depends on the issuer’s financial position, bond terms and currency movements.

2. Long-term masala bonds

Long-term Masala Bonds have a longer repayment period. They may be used to fund infrastructure, expansion and other large projects.

Because the tenure is longer, investors face currency and interest-rate risk for a longer period.

3. Fixed-rate masala bonds

Fixed-rate Masala Bonds pay interest at a rate decided when the bonds are issued. The rate remains unchanged throughout the bond’s tenure.

For example, market interest rates may rise or fall, but the bond continues to pay the agreed fixed rate.

4. Floating-rate masala bonds

Floating-rate Masala Bonds pay interest linked to a benchmark rate. Their interest payments may rise or fall when the benchmark changes.

This may benefit investors when rates rise, but their income may decline when rates fall.

Masala Bonds connect international capital markets with rupee-denominated Indian debt.

1. Denominated in Indian rupees

The bond value, interest and principal are stated in Indian rupees.

Eligible issuers may include:

• Companies
• Financial institutions
• Government-supported entities

Unlike foreign-currency bonds, the issuer does not have to repay the debt in dollars, pounds or another overseas currency.

2. Listed on foreign exchanges

Masala Bonds may be listed on overseas exchanges in financial centres such as London or Singapore.

This gives eligible international investors access to Indian rupee-denominated debt. The bonds must also follow the listing and disclosure rules of the relevant overseas market.

3. Regulated under the RBI framework

Rupee-denominated overseas bonds are covered by the Reserve Bank of India’s External Commercial Borrowing framework.

Issuers must follow the applicable rules relating to eligible borrowers, lenders, maturity periods, borrowing costs and use of funds.

4. Classified as overseas rupee borrowing

Although these bonds are issued outside India, they remain a form of overseas borrowing by an eligible Indian entity.

Their treatment depends on the regulations in force at the time of issuance.

5. Currency risk is carried by investors

Foreign investors bear the exchange-rate risk. For example, an investor may receive the expected interest and principal in rupees. However, the amount may be worth less in the investor’s home currency if the rupee weakens.

6. Issued in overseas markets

Eligible Indian organisations issue Masala Bonds outside India to access international sources of funding.

This helps them borrow abroad without creating a repayment obligation in a foreign currency.

The main features of Masala Bonds are:

• They are issued outside India.
• Their value and repayments are denominated in rupees.
• The issuer avoids direct foreign-currency repayment risk.
• Foreign investors bear the exchange-rate risk.
• They provide access to rupee-denominated Indian debt.
• Funds must be used according to applicable RBI rules.
• They must comply with overseas listing and disclosure requirements.

• They may support infrastructure, development and corporate projects.

  
  
  

Several Masala Bond issues helped develop the offshore rupee bond market.

HDFC’s July 2016 issue was the first Masala Bond issued by an Indian corporate. NTPC’s August 2016 issue was the first green Masala Bond issued by an Indian organisation.

Masala Bonds shift exchange-rate risk from the Indian issuer to the foreign investor.

The issuer pays interest and principal in Indian rupees. Therefore, changes in the rupee’s value do not directly increase the issuer’s repayment amount.

The scenario

Suppose an Indian company wants to borrow from international investors. It may issue either a dollar bond or a Masala Bond.

The rupee depreciation

If the company issues a dollar bond and the rupee weakens, it needs more rupees to purchase the dollars required for repayment.

For example, the dollar amount may remain unchanged, but the company’s repayment cost in rupees may increase.

The protection

With a Masala Bond, the company’s repayment remains fixed in rupees. The foreign investor bears the effect of converting those rupees into another currency.

However, Masala Bonds do not protect issuers from credit risk, interest costs or regulatory changes.

Funds raised through Masala Bonds may be used for permitted activities under the applicable External Commercial Borrowing rules.

Approved uses

Depending on the applicable rules and conditions, the funds may be used for:

• Refinancing eligible rupee loans or non-convertible debentures
• Financing integrated townships or affordable housing projects
• Meeting permitted working-capital needs
• Supporting eligible infrastructure projects
• Funding permitted corporate requirements

Restricted uses

The proceeds may be restricted from being used for:

• Prohibited real-estate activities
• Activities barred under foreign investment rules
• Investment in domestic capital markets
• Domestic equity investments
• Purchasing land
• Lending the money for a prohibited purpose

The exact restrictions depend on the RBI rules in force when the bonds are issued.

• Reduced currency risk for issuers

  
  

  The issuer’s repayment obligation remains fixed in rupees. A fall in the rupee does not directly increase the amount it must repay.

  
  

• Access to international markets

  
  

  Masala Bonds allow eligible Indian issuers to raise money from overseas investors. This helps them diversify their funding sources.

  
  

• Potentially competitive borrowing costs

  
  

  Borrowing costs may be competitive when international demand for rupee-denominated debt is strong.

  
  

  However, Masala Bonds are not always cheaper than domestic funding. Costs depend on interest rates, demand, tenure, credit quality and issuance expenses.

  
  

• Exposure to India for investors

  
  

  Foreign investors can use Masala Bonds to invest in Indian rupee-denominated debt.  However, they still face currency risk because a weaker rupee may reduce returns in their home currency.

  
  

• Development of capital markets

  
  

  These bonds connect Indian borrowers with international investors. They can support the growth and international reach of India-linked debt markets.

  
  
  

• Currency risk for investors

  
  

  Investors may receive full repayment in rupees but earn less after converting the money into their home currency.

  
  

• Possible higher interest costs

  
  

  Investors may demand higher interest rates to compensate for currency, credit and emerging-market risks. This may increase the issuer’s borrowing cost.

  
  

• Limited market

  
  

  The Masala Bond market is smaller than the global market for dollar-denominated bonds. This may limit trading activity and the amount some issuers can raise.

  
  

• Regulatory requirements

  
  

  Issuers must follow the RBI’s External Commercial Borrowing rules and the requirements of the overseas market where the bonds are listed. These compliance and disclosure processes may involve additional time and cost.

  
  

• Dependence on economic conditions

  
  

  Demand for Masala Bonds may be affected by inflation, interest rates, the Indian economy and movements in the rupee.

  
  

Read more: What is debenture

• Reduced investor appeal

  
  

  Changes in Indian interest rates may affect demand. Investors may choose other options if they offer better returns for a similar level of risk.

  
  

• Restricted use of funds

  
  

  Borrowers cannot use the proceeds for every business purpose. They must follow the end-use rules under the RBI framework.

  
  

• Emerging-market risk

  
  

  Foreign investors may be cautious about economic uncertainty and currency movements in emerging markets.

  
  

  This may affect demand and borrowing costs.

  
  

• Limited suitability for retail investors

  
  

  Masala Bonds are mainly issued in overseas markets and are commonly purchased by institutions and other eligible investors.

  
  

  They may not be easily available or suitable for ordinary retail investors.

  
  

• Currency risk for investors

  
  

  A fall in the rupee can reduce the value of interest and principal after conversion into the investor’s home currency.

  
  
  

Masala Bonds allow eligible Indian entities to raise funds in overseas markets through bonds denominated in Indian rupees. Since interest and principal are repaid in rupees, foreign investors bear the exchange-rate risk instead of the issuer.
These bonds connect international investors with Indian debt markets and may support infrastructure, green energy and corporate projects. However, investors must consider currency, credit and market risks, while issuers must follow the applicable RBI rules.