Fixing the bond market: Investor protection, regulatory reform, and the road ahead

In recent years, Bangladesh has witnessed a surge in corporate bond issuances—more than at any point in its financial history. 

For a country with growing infrastructure needs, a maturing financial sector, and a rising appetite for capital, this is a positive trend. Bonds offer an essential alternative to bank loans for both corporate and financial institutions—helping raise long-term capital, refinance expensive debt, hedge interest rate risks, and improve overall financial resilience.

However, this rapid expansion has far outpaced the regulatory framework and institutional capacity needed to manage the associated risks. Without structural reforms in how we regulate, rate, and resolve bond investments, Bangladesh's fixed income market could find itself exposed to the very vulnerabilities that triggered financial crises in more developed economies.

Growth without governance

The rising issuance of debt securities is a clear sign of a market in transition. But with this transition comes responsibility. A mature bond market is not just about volume—it is about trust, transparency, and investor protection.

At present, there is a stark asymmetry in the treatment of bond defaults. If a bond defaults and banks are among the investors, the event is reported to the Credit Information Bureau (CIB). But if the bond is held by non-bank financial institutions, insurance companies, mutual funds, or retail investors, the default is not recorded in the CIB. 

This blind spot not only distorts credit information but also erodes investor confidence. A zero-coupon bond default, for example, could quietly harm hundreds of non-bank investors without leaving any regulatory footprint.

This lack of comprehensive reporting also impairs the development of a secondary bond market, as investors lack real-time data on defaults and downgrades.

What constitutes a bond default?

A bond default goes beyond missed interest or principal payments. It can also occur when the issuer:

Violates financial covenants (e.g., debt-to-equity ratios), Experiences rating downgrades, fails to maintain collateral, undergoes significant changes in ownership (change of control), triggers cross-default provisions due to other obligations, or files for bankruptcy.

Globally, bonds are structured with these protections in place, but many of these features are absent in Bangladeshi debt instruments. Furthermore, most bond covenants here are not enforced, and credit rating agencies rarely sound the alarm until it is too late.

Lessons from Lehman: The role of rating agencies

The 2008 collapse of Lehman Brothers marked a turning point in global finance. It exposed deep flaws in the credit rating system, particularly the conflict of interest between issuers and rating agencies. The same agencies that were supposed to warn investors about deteriorating credit quality were instead complicit in enabling risky practices, ultimately fuelling the subprime mortgage crisis.

Bangladesh cannot afford to ignore these lessons. The Bangladesh Securities and Exchange Commission (BSEC) has granted licences to eight credit rating companies under the Credit Rating Company (CRC) Rules 2022. 

These rules cover technical qualifications, operational guidelines, and reporting obligations. However, they fall short in one crucial area: accountability. There are no meaningful civil or criminal liabilities for gross negligence, misrepresentation, or fraudulent ratings.

This loophole must be addressed. A credit rating is not just a number—it is the foundation on which investor decisions are made. If the foundation is shaky, the entire structure collapses.

The problem with passive ratings

Bond valuation is inherently dynamic. It is influenced by changes in interest rates, macroeconomic outlooks, issuer cash flows, and risk sentiment. Therefore, bond ratings require ongoing surveillance—not just a one-time assessment.

Globally, surveillance ratings are updated quarterly, or even more frequently in volatile conditions. In Bangladesh, however, most surveillance ratings are conducted only once a year—despite the CRC Rules mandating quarterly updates. In some instances, defaults are not reported at all by the agencies or trustees. This lack of discipline undermines the credibility of the entire bond market.

To restore investor trust, BSEC must enforce real-time disclosure, penalise non-compliance, and consider creating specialised rating agencies dedicated solely to fixed income securities.

A game changer in India: IBC 2016

One of the key catalysts for India's bond market transformation has been the introduction of the Insolvency and Bankruptcy Code (IBC), 2016. Prior to the IBC, India's insolvency regime was fragmented, slow, and ineffective—often taking years to resolve distressed corporate assets. The IBC changed that by introducing a time-bound, creditor-in-control process that significantly improved recovery rates and transparency for creditors, including bondholders.

Under the IBC, if a company defaults, creditors—including holders of debentures and bonds—can initiate insolvency proceedings through the National Company Law Tribunal (NCLT). The process is designed to be completed within 180 to 270 days, and gives institutional investors the confidence that their claims will be prioritised and legally protected.

This legal certainty has encouraged greater institutional participation in India's bond market, particularly in distressed debt and high-yield segments. It has also incentivised issuers to maintain better credit discipline. The IBC's success offers a critical blueprint for Bangladesh, where delays in legal resolution and lack of enforcement continue to stifle bond market development.

International comparisons: What Bangladesh can learn

India provides a robust template not only in rating systems, but also in legal infrastructure. Agencies like CRISIL, ICRA, and CARE offer high-frequency credit surveillance, while the IBC ensures that defaults do not lead to prolonged legal limbo.

Vietnam and Malaysia have also invested in credible rating systems and market infrastructure to support investor confidence in fixed income instruments. Their rating agencies publish transparent methodologies and maintain continuous credit surveillance.

Bangladesh can—and should—adopt similar practices. BSEC should consider forming a working group to benchmark regional rating frameworks and insolvency systems, and tailor them to local needs.

An evolving market, but lagging legal protection

In recent years, Bangladesh has introduced a variety of sophisticated instruments—Credit Default Guaranteed Bonds, Sukuks (Islamic bonds), and AT1 perpetual bonds issued by banks. However, these innovations have not been accompanied by adequate investor protection or legal recourse mechanisms.

Retail and non-bank investors remain dangerously exposed. If a trustee fails in its duties, if a bond defaults, or if a rating agency misleads the market—there is little the investor can do. It is time for that to change.

The Financial Loan Court (Ortho Rin Adalat) should be empowered and reformed to accommodate the complexities of bond defaults. A special tribunal or fast-track resolution process for capital market disputes may also be necessary—taking a page from India's NCLT and IBC model.

Looking ahead: Building a resilient fixed income ecosystem

The bond market is a cornerstone of modern finance. It allows companies to access patient capital, reduces reliance on bank financing, and deepens financial markets. But none of this can happen if investors feel unprotected or misinformed.

Bangladesh has a unique opportunity to strengthen its financial system through well-crafted reforms. 

This includes: Mandating real-time disclosure of defaults and rating changes, Enforcing quarterly surveillance ratings, Imposing liability on negligent or fraudulent rating agencies, Introducing comprehensive investor protection laws, Creating a bond market dispute resolution mechanism, Adopting an insolvency resolution framework modelled on India's IBC, And updating the CIB framework to capture all corporate bond defaults—regardless of who the investors are.

With strong leadership from the BSEC and support from the Bangladesh Bank, Bangladesh can create a bond market that inspires trust, attracts long-term capital, and supports economic growth.

We are optimistic that the current leadership at the BSEC recognises these issues and will move decisively toward much-needed reform.

Ershad Hossain is a veteran investment banker who introduced several fixed income instruments in Bangladesh. He previously served at American Express Bank, Standard Chartered Bank, and HL Bank in Singapore.

Disclaimer: The views and opinions expressed in this article are those of the author and do not necessarily reflect the opinions and views of The Business Standard.