Don’t Miss Out: SEBi’s New AT-1 Bond Valuation Rule Explained

Tanushree Jaiswal Tanushree Jaiswal

Last Updated: 8th August 2024 - 12:55 pm

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On Monday, the Securities and Exchange Board of India (SEBI) announced that mutual funds must value additional tier-1 (AT-1) bonds they hold using the 'yield to call' methodology. This directive aligns with recommendations from the National Financial Reporting Authority’s (NFRA) report to the Department of Economic Affairs.

AT-1 bonds are perpetual bonds issued by banks to meet regulatory capital requirements. These bonds do not have a maturity date, so banks make periodic interest payments for the bond's lifetime. However, they include a “call option” that allows the issuer to redeem or repay investors after a specified period.

Mutual funds will now value Additional Tier 1 or AT-1 bonds based on the yield to call (YTC) method. Yield to call represents the expected return an investor receives if they purchase a bond and hold it until the issuer repurchases it on the call date, before maturity.

The NFRA report recommends that since the market practice for AT-1 bonds tends to trade or quote prices near a yield-to-call basis, valuing these bonds on a yield-to-call basis, adjusted with appropriate risk spreads, aligns with market-based measurement principles under Ind AS 113.

Moreover, the NFRA report emphasizes that the recommendation on the yield-to-call methodology is specific to interpreting Ind AS 113 concerning AT-1 bond valuation. The issue of deemed maturity dates for other purposes falls outside NFRA’s scope.

Following the NFRA’s recommendation, SEBI stated in a circular that mutual funds should use the yield to call method for valuing AT-1 bonds to align with market practices and Ind AS 113 principles. However, for all other purposes, the deemed maturity of perpetual bonds will adhere to the guidelines in the Master Circular. Although AT-1 bonds are issued by banks with no maturity date, they do contain a call option.
 

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