A recent assessment conducted by IFC, and the Securities Board of Nepal (SEBON) has shown that Nepal's capital market, regulated by SEBON, is seeing remarkable growth driven primarily by its equity markets - yet it holds the potential for even greater expansion and diversification through its debt markets.
The study examines the current structure of the capital market and recommends expanding into the debt market to support Nepal's substantial financing needs and its sustainable economic development goals, particularly as the country progresses towards LDC graduation and commits to becoming a Net Zero nation by 2045.
To realize this potential, SEBON and IFC are collaborating on a comprehensive bond market reform and development program aimed at enhancing corporate bond issuances in Nepal.
The Nepal Stock Exchange (NEPSE) has played a pivotal role in supporting equity market growth, boasting a market capitalization of $26.35 billion as of 2022, which accounts for 69.4 percent of the country's GDP.
In contrast, the debt markets in Nepal constitute a smaller portion of the overall capital markets. Currently, the country has three operational debt markets: money markets, government debt markets, and corporate debt markets. The money market, although small, lacks corporate money market instruments. Government debt markets dominate, accounting for a substantial 87.10 percent share. However, corporate bond markets remain in their nascent stage, primarily limited to bond issuances from banks and attracting a limited group of institutional investors, including insurance companies, mutual funds, and other financial institutions.
"The debt markets in Nepal possess significant untapped potential. Streamlining the bond issuance process, introducing a book building mechanism, and enhancing transparency are imperative to attract both domestic and international investors," said Martin Holtmann, IFC Country Manager for Nepal, Bangladesh, and Bhutan. "By implementing these measures, Nepal can create a conducive environment for the growth of the debt markets, unlocking new financing opportunities for businesses and infrastructure development."
To fully unlock Nepal's debt market potential, it is essential to address regulatory and operational challenges.
In the offshore bond issuance space, although there are enabling legal provisions, the current regulatory regime does not fully support and facilitate such issuances. This limitation restricts the potential for international participation and limits the growth of the bond market.
The bond issuance process itself is often cumbersome and manual, leading to delays and inefficiencies. Introducing a book building mechanism, currently absent in the bond markets, would enhance transparency and efficiency in pricing and allocation.
Moreover, there is a lack of incentives for issuers to opt for bond issuance. Restrictions on unlisted companies issuing bonds and inadequate provisions for investment in debentures issued by real sector energy companies for priority sector lending hinder market development.
“This is a such an important agenda. Nepal’s infrastructure and investment needs won’t be met until we have a vibrant bond market. We are partnering with IFC to bring in the required reforms,” said Ramesh Kumar Hamal, Chairman of SEBON. “We need to look into areas of specific regulation to resolve fundamental issues that are hampering development of a strong bond market. This assessment offers very good lessons from other countries.”
Efforts are underway to streamline the bond issuance process, introduce a price discovery mechanism through a book-building system, and facilitate the dematerialization of government securities. The consolidation of development bond issuances aims to create larger benchmark securities, enhancing liquidity and fostering the development of a yield curve. The introduction of a primary dealer and market maker framework will improve pricing in the primary market and enhance secondary market liquidity.
Awareness-building initiatives will also play a crucial role in promoting the benefits of issuing bonds and attracting a wider range of investors. By raising awareness about the potential of debt markets, issuers can explore new avenues of financing and diversify their funding sources.
"IFC has been supporting many countries in their efforts to develop the bond market and introducing various types of bonds based on the country's needs and demand. We are committed to bringing the learning and expertise from other markets to Nepal and supporting the country's efforts to follow a sustainable and inclusive growth trajectory," said IFC's Holtmann. “A functioning bond market helps to provide important signals to the wider market about the stability of the financial system and thus helping to crowd-in financing required to meet the growing development needs of the country.”
As Nepal endeavors to strengthen its capital market and establish a well-rounded financial ecosystem, comprehensive reforms and focused efforts are necessary to overcome existing challenges and tap into the full potential of the debt markets. By doing so, Nepal will foster a more diverse and robust financial system that supports economic growth, facilitates infrastructure development, and enables businesses to access the necessary funding for expansion and sustainability.