Capital Markets Law Journal, Vol. 14, No.

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Editors’ Note

The new bond thing: sub-sovereign masala bonds?

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Bored on my flight into Kerala, India’s southern-most state, a few weeks ago, I picked up
a newspaper lying on the empty seat next to me. Most of the news was either about the
Indian elections and how the nationalist BJP party was predicted to sweep or India’s
prospects in the upcoming cricket World Cup. What caught my eye though was a little
piece in the back section with a photo of luminaries from Kerala’s Marxist party at the
London Stock Exchange. Really? Kerala Marxist party leaders at the London Stock
Exchange? Turned out not to be a gag though. It was a five-year rupee-denominated
bond issue by Kerala, with a Canadian pension fund as its anchor investor.
They were celebrating the first ever sub-sovereign ‘masala’ bond issue on the LSE.
Masala bonds are basically rupee-denominated bonds issued overseas (like Dim Sum and
Samurai bonds) and there are almost 50 of these out there. This was the first one ever
issued by an Indian state. I was intrigued, not only because this looked to be a new
entrant on to the sovereign bond markets, but also because I had had the vague
impression that the Indian constitution barred the states from tapping the overseas
markets. And yet here it was: a bond issued by a wholly owned corporation of the state of
Kerala (the Kerala Infrastructure Investment Fund Board or KIIFB), fully backed by a
state guarantee with a rating from Fitch of BB.
What appears to have happened, as best as I’ve been able to piece together, is that the
Indian Central Bank decided in early 2019 that state government enterprises, if they were
eligible for foreign direct investment, could borrow overseas (yes, I know that sounds
circular). And given that Kerala was allowed to slap its guarantee on the bond issue, it
essentially means that the Reserve Bank of India has opened a loophole for the Indian
states to tap the international markets. Rumour is that a number of other Indian states
are already in line to follow the Kerala masala bond model.
Is this a good thing? My initial instinct was to say no. After all, on the face of it, it looks
like dodgy off-balance sheet borrowing. But, as I’ve learned more about the Kerala
context, I’m coming around to thinking of this in a more positive light, particularly since
there appear to be other controls in place to protect against abuses (a limitation on the
amount of contingent borrowing states can do as a function of state GDP, and the
requirement of Central Bank approval of the borrowing entity in question).
And then there is the context. This bond is basically an attempt to do countercyclical
financing, to make up for the downfall in revenues Kerala has recently suffered from,
among other things, a reduction in remittances from migrant workers in the Middle East
and an unusually bad monsoon season last year. Kerala’s finance minister, Thomas Isaac,
is a former professor of development economics, so it is not altogether surprising that he
understands the value and need to tap the external markets. Indeed, as of writing this in
June 2019, Isaac has been quoted in the Indian financial press as saying that Kerala is

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doi:10.1093/cmlj/kmz015 Accepted 28 May 2019 Advance Access publication 30 June 2019
294 Capital Markets Law Journal, 2019, Vol. 14, No. 3

looking at issuing a dollar denominated ‘diaspora’ bond next. (Disclosure: Isaac and I co
authored an article on worker cooperatives about fifteen years ago and, while I haven’t
seen him in years, I consider him a friend).

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Question is: Will the Indian sub-sovereign market thrive on the back of this Kerala
masala bond or will this be a one-time thing? I don’t think we will have to wait long to
find out. The coupons are attractive (9.723 per cent coupon), the banker/lawyer fees are
undoubtedly big, and these are debtors who have never before tapped the international
markets. It won’t be long perhaps before we have articles in the CMLJ about the sub-
sovereign masala bond market.
We have a wonderful line up of pieces tackling contemporary capital markets topics in
this issue, from both eminent practitioners and academics. We hope you enjoy them.
Mitu Gulati
June 2019