SEBI’s New Liquidity Window: A Game-Changer for Retail Investors in Corporate Bonds?

The Securities and Exchange Board of India (Sebi) has introduced a new facility to make it easier for retail investors to sell their corporate bonds. This new rule, called the “liquidity window,” allows bond issuers to give investors the option to sell their bonds back to the company at certain times before the bond reaches maturity.

On October 16, Sebi issued a circular explaining that this move aims to increase participation in the corporate bond market, which is often seen as inactive because most institutional investors hold bonds until they mature. The new liquidity window gives investors the right (but not the obligation) to sell the bond back to the company before its full term, helping solve the problem of low liquidity in the market.

How Does the Liquidity Window Work?

Imagine a bond that lasts for 10 years and offers a 9.5% interest rate, while fixed deposits are offering 6% returns. The bond may seem more attractive, but it carries risks. The company might fail to repay, which is called default risk. Another risk is that the investor might not find anyone willing to buy the bond before the 10 years are up. Sebi’s liquidity window aims to reduce this second risk.

The issuer (the company selling the bond) can offer to buy back a portion of the bonds before the maturity date. The company must offer to buy back at least 10% of the total bond issue, but this can only happen after 12 months from the bond issuance.

The issuer can decide how often they want to offer this buyback option, such as every quarter or every month. They also choose how much they will buy back during each window. If more investors want to sell their bonds than the company is willing to buy, the bonds will be bought back proportionally.

The price at which the company buys back the bond will depend on its market value just before the liquidity window opens. For example, if a company offers to buy back bonds in April, the value of the bond on March 31 will be used to determine the price. However, the company cannot offer to buy back bonds at a price that is more than 1% below the bond’s market value.

What Happens to the Bought-Back Bonds?

Once the company buys back the bonds, they have 45 days to decide what to do with them. They can:

1. Sell the bonds on the exchange
2. Sell them directly through a bond platform
3. Extinguish (cancel) the bonds

This new policy is designed to make investors feel more confident about investing in corporate bonds. The actual impact of this change will be seen over time, but experts believe it could encourage more retail investors to enter the bond market.