Bonds and Loans

13 Oct

BE/RBINOTE/57/2020

The monetary policy report of the Reserve Bank of India (RBI) shows that the weighted average lending rate for fresh loans fell by 91 basis points (bps) between March and August, higher than the 71bps drop in the one year before the coronavirus outbreak.
One basis point is one-hundredth of a percentage point. On the other hand, the five-year top-rated corporate bond yield has dropped by a smaller 79bps.
The drop in yields of corporate bonds with one-year and three-year tenures is larger.
Even so, analysts note that banks have been able to retain their pricing power.
One way that banks can keep credit rates from falling sharply is by managing credit spreads. Managing spreads means that the benefits of increased transmission are uneven across industries. Home loans have been the main beneficiary because the spread charged by banks on the pension rate has been minimal.
In contrast, the spreads for loans to micro, small and medium-sized enterprises were wider.
For example, the weighted average lending rate for outstanding home loans was 8.2%, just 50 basis points higher than the MCLR. The median deviation from the key pension rate was only 40 basis points. For MSMEs, the spread was 240 bps. The weighted average loan rate is 10.2% for these companies. Many MSMEs may not be able to access the bond market, but those that do may borrow a bit cheaper than lending rates.

Following article gives a picture of the difference between a Bond and Loan effect.