In its bid to give a leg-up to the debt market and address the liquidity problem following the credit crisis that successively hit the market since 2018, the Securities and Exchange Board of India (Sebi) has taken a four-pronged approach.
The regulator is working with players to allow market-making which is necessary to bring in depth with a large number of participants, buyers and sellers of bonds. To this end, the first step is the Limited Purpose Clearing Corporation (LPCC), which is being set up with the combined effort of the mutual fund industry.
The purpose of setting up this entity is to smoothen the redemption pressure and settle bond market transactions. The LPCC will begin with a corpus of Rs 150 crore and will shortly come into existence with mutual fund houses contributing towards the corpus. The contribution from fund houses has to be in proportion to the average assets under management of open-ended, debt-oriented mutual fund schemes managed by them. This would exclude overnight, gilt fund with 10-year constant duration, but include conservative hybrid scheme.
The LPCC is the first building block in Sebi’s game plan. The second is to allow regular issuers to take up the responsibility of market-making. However, this measure would hinge on smooth functioning of the repo market so that short-term money can be borrowed. According to sources in the industry, once these two measures are in place and functional, a virtuous cycle could start.
Events like the pandemic resulted in freezing of markets, leading finance minister Nirmala Sitharaman to announce a backstop facility in the Budget. In case there is a systemic crisis, the sovereign will step in. This will be done through a trust and the work is underway.
The backstop facility will work through a cascade while taking loss. The first loss will be taken via fair pricing mechanism. Mutual fund houses can sell debt securities to this trust backed by the sovereign. The second loss will be taken by the equity contribution of the fund house and the third loss would be taken by the contributing schemes selling assets. The fourth loss would go to the sovereign.
According to sources, this sovereign-backed trust is underway and the nitty-gritties are being locked. According to sources, this would be a significant step for the bond markets.
